One of the biggest errors a company can make is to embark on a new market strategy that is not valid, or if carried to its logical conclusion, unprofitable. I mentioned the wax company that was founded on an irrational marketing premise and into which many tens of millions of dollars were invested before the basic concept was disproved. It really took a very minimal amount of investigation to determine what the correct approach should be and it would have saved a lot of effort and extra cost if the investigation had been performed prior to the formation of the company.
Many market strategies are like Athena, the Greek goddess who was born full grown from the head of Zeus. They magically appear from the heads of senior management without much further or deep investigation and get adopted because they sound good.
There are three points at which new market strategies are adopted, and one should be cautious at these points or nexuses in corporate growth. These are:
It sounds almost silly that a corporation would adopt a product without thorough examination of the potential market or without optimizing the channels through which the product is introduced to the market, yet this happens often.
I was once involved with a company that “cloned perfect plants.” The process included developing a “perfect” plant through hybridization and then “cloning” the perfect plant in a sterile facility through the use of growth hormones and a very labor-intensive manufacturing process. In other words, the company used a very expensive process to create an exact copy of the “parent” plant. When I asked the CEO of the company what he was cloning, he stated, “Household ferns.” I asked, “Why household ferns?” He replied, “Because they are the easiest.” Now, one must realize that household ferns are sold at very low prices through grocery stores and the big-box stores such as Costco and Wal-Mart. It was apparent that the ability to recover value from the products and channel of distribution chosen was minimal. There had been no analysis to determine where to get maximum value from the marketplace, which reflected the exacting effort to create a perfect plant. In other words, the company had been operating (at a loss) for five years without any value-realization potential.
By modifying the strategy to one in which perfect plants were critical, cloning was meaningful, and through which we could charge enough to recover all operating costs plus a profit, we changed the paradigm of the business.
You must ask yourself, “Am I in the most profitable section of the marketplace?” or, “Am I expending a great deal of effort on market segments that will never yield the kind of returns I am searching for?”
The reason many companies, even large ones, don’t do the analysis is pure arrogance—the feeling that they know the market better than anyone else (i.e., “Please don’t bother us with the facts. Our minds are made up.”).
The investigation process takes effort and research—but not as much as one might think. The process is called “slicing and dicing” the market. In Figure 3-1, I have a sample format for slicing and dicing by laying out the various markets for the product or service you plan to offer.
The template has five elements:
The market or end use for the product or service
The global current sales volume in dollars for the product or service
The average profit margin realized currently in the market segment
Who the competitors are
The growth rate of the market sector
Let’s discuss each in turn.
This briefly describes the place or channel that offers the product or service. For example, in the case of the petroleum waxes we were attempting to sell, some typical markets were:
Candles
Fire logs
Blenders (or converters)
Food and chemicals
Waxed paper
Each of these has a physical set of needs and various distribution channels that can be quantified.
I have operated apparel companies and learned that besides the men’s and women’s markets, there are subcategories including sportswear, casual, and formalwear, as well as various types of distribution such as large discount chains, specialty stores, department stores, and Internet retailers. Each of these had volume and margin structures that needed to be examined in view of the products we were capable of producing.
The mere act of defining the market options a company has at its disposal often identifies missed segments that the company should be taking advantage of and currently is not!
People can identify market segments by examining trade publications and literature, looking at competitive data, getting input from the sales force, or conducting formalized market studies and even surveys. A few years ago the Internet was not a factor in the market and now it is a major channel for direct sales for many companies. In the future, new markets will emerge that we can’t even conceive of today.
Once a market is identified, its global sales volume in dollars must be quantified. Quite frankly, extremely low-volume markets tend to be overlooked unless there is a compensating high level of profitability. And sometimes very low profitability offsets high-volume markets. The key to this exercise is to identify target markets when the combination of volume, size, profitability, and potential is optimal.
Each market segment has its own profitability. Obviously this is as important as volume. It often makes sense to attempt to pursue lower-volume, higher-margin markets and utilize your resources primarily in this pursuit.
Before entering a market, one needs to examine the competition and its strengths. The competition represents resistance and must be considered as part of an overall market decision.
Most companies want to invest in growing rather than static or decreasing market segments since an investment in a growing segment may yield growing sales opportunity.
By laying out this strategic analysis in quantitative form, you are preparing a market shopping list that allows you to prioritize the key markets you wish to pursue. You may find after this analysis that you are diligently pursuing the worst markets from a gross profit standpoint or ignoring the highest-growth markets with the greatest potential. Because markets change over time, it is best to perform this analysis at least annually.
There is a second necessary analysis that relates to the cost of entry into the chosen marketplaces in order to determine the eventual yield of the venture to the corporation. I call this analysis the simplified market plan (see Figure 3-2). It takes the market segment you have chosen and becomes more specific as to the people, capital investment, and time it will take to reach market. You now can calculate the profit potential to the company as well as the return on investment to see if a market is worthwhile financially.
Surprisingly, few companies go through this kind of analysis and certainly they almost never revisit strategic market decisions that they made in previous years until decreases in profitability and sales force them to reevaluate their positions.
In the case of totally new products or ventures, the same rigorous analysis can be performed, but the inputs are less certain. Test markets can prove the premises of the market strategy in certain instances, but it is still valid to go through the analysis in order to know what one’s expectations should be.
In certain businesses, companies can test their new strategies on a small scale before launching them on a full-blown basis. In a retail environment where stores already exist, we can try a new marketing model out in a few “test stores” and track sales to see if we have a successful idea. Food companies commonly will test-market products in limited markets prior to a full rollout. All of this may seem overly cautious, but as we all know, the cost of a mistake can be high!
I have often gained great profits for companies by identifying the point in the marketing chain where the greatest profit is made. In the case of the petroleum wax company, the “slice and dice” of the market showed that the greatest return on investment occurred at the formulator level. We sold certain waxes wholesale to formulators that would mix them with additives and sell them to specialty end users at very high profits.
Thus, the formulator was making gross margins three to four times what we were making, and with minimal investment on the formulator’s part. In fact, it was leveraging off its market knowledge to obtain far superior profits than ours. Our answer to this dilemma was to acquire a formulator; thus, with the source of product and the new knowledge of markets, we increased our profitability considerably.
In the case of the plant-cloning facility, we discovered through the strategic market analysis that most of the profit in the distribution chain was made by the secondary grower, which grew the cloned plant to a size that was salable at retail. The secondary grower was gaining the greatest return for a relatively small investment. By merely keeping plants longer in the growth cycle, we doubled our profitability and shortened the distribution chain to the eventual buyers.
Once you have a strategy that you feel works and is optimized, the next step is to optimize your customer base.