While quantification of the six metrics can be a challenge, the underlying concepts are more straightforward in some instances (e.g., headroom and market growth) than in others.  The two categories of metrics discussed in the following two case studies are ones that are particularly challenging, and the research foundations behind the analytic structures described below are ones that can help firms better understand the ranking of their growth options along these important dimensions as part of the overall assessment process.

A Case Study:  Assessing Margin Improvement Opportunities

Volume growth is always important to success, especially over the long term, but it is equally critical that strong margins can be sustained.  The importance of margins and the risks associated with businesses that are under constant price and margin pressures has been underscored over and over:  “The single most important decision in evaluating a business is pricing power.  If you’ve got the power to raise prices without losing business to a competitor, you’ve got a very good business.  And if you have to have a prayer session before raising the price by 10 percent, then you’ve got a terrible business.”[4]

Four factors determine the extent to which pricing pressure are likely to yield pressures on margins.  First and most important is the capacity balance in the relevant supplier and customer industries.  Excess capacity is almost always associated with pressures on pricing.  Protection – due to legal restrictions, technology, customization, the installed base, or other factors – is a second consideration.  Low barriers to entry often are translated into pricing pressures.  The health of the business environment and the nature of the applications into which products and services are sold is the third factor.  Finally, the strength of relationships with customers and the degree to which a supplier is in the spotlight of purchasing managers and competitors determines the strength of pricing pressures.

It is not, however, pricing pressures alone that are relevant to assessing margin improvement potential for the growth options under consideration.  It is also important to evaluate the importance of pricing to the success of the business.  Here there are also multiple factors to consider.  First is whether changes in profitability have been driven by pricing, relative to the contributions from volume, productivity, cost management, or other factors.  Second is whether profitability swings wildly as a function of price movements.  This is often true for low margin businesses and ones in which customer price sensitivity is very high.  Third is the degree to which volume can shift quickly as a function of price changes.  This happens, for example, in situations in which customers maintain multiple source relationships and play off one supplier against the others.  Finally, the degree to which swings in commodity prices affect profitability is an important factor, one very familiar to firms whose products involve such commodities as metal and chemical feedstocks.

The table below summarizes these factors, with the first four reflecting those linked to pricing pressures and the final four reflecting those related to the importance of pricing to the business unit under consideration:

The concepts summarized in this table were used to create scores for each of the market segments that were being considered for growth investments, with a score of “1” given to options assessed to be in the green column, a second of “0” for those assessed to be in the yellow column, and a score of “-1.5” for those assessed to fall in the red column.  The asymmetry in the scoring reflects one the lessons that has emerged from applications of this process.  “Red flags” along any of these dimensions have to be viewed with great concern.  Pluses and minuses don’t neatly average out.  If there are dimensions along which the assessment for a business unit or market segment identifies negative elements, these must be taken very seriously, as they are more likely than not to thwart growth aspirations.

For four of the segments evaluated by this firm, the scoring is reflected in the table below, with the rows for Pricing Power and Pricing Importance representing the cumulative scores for the metrics within those categories:

While in the actual application, quite a bit of sensitivity testing was done, the chart below reflects a composite assessment giving each of the four metrics equal weights in the aggregation process for both pricing power (as a result of only modest pricing pressures), on the horizontal axis, and pricing importance, on the vertical axis:

While assessments along the other growth choice metrics outlined in the previous section eventually determined the relative attractiveness across these segments, from the perspective of Margin Improvement Opportunity, two of the segments under consideration (i.e., A and D) scored quite favorably, with limited price pressures and a relatively low importance of price to success.  In these segments, the firm has many options available to it (including raising prices), and can select from among them those that are most likely to foster long-term profitable growth.  In the other two segments, the outlook is less positive, with relatively low pricing power (and lots of pricing pressure) in both instances and, in the case of segment B, a very strong dependence on pricing.

A Case Study:  Short-Term Fit

A short case study similarly illustrates the assessment process employed for one of the positioning metrics, Short-Term Fit.  Only rarely does a single firm recognize the potential for growth that can be realized through new initiatives targeted at markets with great potential.  “Short-Term Fit” determines whether it will be your firm or your competitors that realize the potential associated with such opportunities.

Across the growth options under consideration, the Short-Term Fit assessment involves such factors as first-mover advantages, sales model and channel advantages, major customer relationships, and the relevance of the installed base.  While choices as to growth priorities shouldn’t focus on the potential for quick successes alone, gaining a head start on the competition can be a factor contributing to long-term success.  The first mover advantages of firms that are ahead in technology and product development are seen over and over in market after market.  The other elements of this assessment involve different short-term considerations.  The focus on sales model and channel advantages reflects the challenges that always exist which a firm has to make changes to its existing business model[5].  Avoiding such challenges is an important factor in quickly getting to market.  Strong major customer relationships are a similarly important factor enabling early success, with firms that can draw upon strong and trusting relationships to gain sales and “reference successes” likely to be the ones that succeed in other markets as well[6].  And the quality of the match between a new product and customers’ installed base is always a factor determining acceptance.

The table below provides a quick overview of the assessment themes and the characteristics associated with strong, average, or low potential:

While the assessment along these dimensions involves many qualitative considerations, in multiple applications, the leadership teams involved have rather quickly reached consensus as to where each growth option follows along each of these four metrics.  The basis for such agreement was the specificity of the metrics, which moved the discussion from high-level considerations to very concrete dimensions that were well understood by the participants in the process.  As was illustrated in the previous case study, scores were assigned to each option across the four metrics, and aggregate scores were computed to evaluate how well each option fared in terms of Short-Term Fit.  As was the case in the previous example, some growth options scored more favorably than others, and in other cases, “red flags” spotlighted important growth inhibitors that had to be addressed by the firm’s management before those options would become attractive.

Summary

While it’s always wonderful to have  a surplus of attractive growth options, it isn’t good to allow them to be translated into a surplus of “highest priorities”.  A Dilbert cartoon[1] several years ago showed Dilbert communicating to his boss that his priorities were all either essential, critical, or must-have.  His request was to know which he should stop working on.  The same dilemma faces employees in any firm that has too many growth priotiies.  In those firms, there are in truth no growth priorities.

Culling the list of growth options to those that truly represent the firm’s best options and its best use of scarce investment and leadership resources can result in a success story, one in which growth potential is actually realized and translated into rewards for shareholders.  The process outlined and illustrated here, looking at key considerations involving both the market and competitive positioning, can lead to that outcome and to rewards for the firms that use it to define a short, meaningful list of growth priorities.

Author: George F. Brown, Jr.