CHAPTER 2
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FRAMING
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THE
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CHALLENGE
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YOUR FIRST OBJECTIVE IN CREATING AN ENTREPRENEURIAL mindset is to make sure that you have clearly established what your business needs to do to make the effort worthwhile. You must create a mindset that pushes you and your team beyond mere incremental improvement to entrepreneurial actions that really make a difference. In other words, you should frame what you must do to create a genuine win for your organization in terms of growth in both profits and profitability. It may sound obvious, but stop right now and think about whether you and your co-workers are truly clear about which results from your efforts would make these efforts good investments for your shareholders. People can be surprisingly vague on this point. This has lots of negative consequences, among them a temptation to be complacent and a tendency to look for incremental improvements rather than major wins.
A vivid demonstration of this tendency toward vagueness constantly crops up in the Wharton Small Business Development Center, which helps hundreds of would-be entrepreneurs each year. Our first assignment to would-be entrepreneurs requires these potential entrepreneurs to describe their new business idea in terms of profit potential. Today, we typically get ideas like creating communities on the Internet for consumers of natural skin-care products. The problem is that these are customarily not businesses that would offer a competitive risk-adjusted return compared to the wanna-be’s current secure salary. We force them to think through the profit implications of the idea instead of just focusing on the revenue component and their (natural) tendency to incrementally expand on their current income.
Then we ask the aspiring entrepreneurs to go out and look only for business opportunities with the potential to generate twice as much income for themselves (when the venture is mature) as they would earn if they continued to work in their present position. Sometimes our participants are at firms like GE or major banks and insurance companies, or professors from the engineering or life sciences faculties, or MBA students with job offers from Goldman Sachs or McKinsey & Company. As a result, the standard is quite high. We insist that they double this amount to earn them a premium for taking on the task of starting a business. Then we insist that they design a business to get them there within two to three years.
The results are almost always fascinating. The entrepreneurs leave behind the easy-to-do businesses and get creative with ideas that may not be as quantifiable, but that are usually far more interesting and potentially profitable than the first batch. Setting forth a clear and unambiguous standard for what the business must deliver galvanizes their effort, gives them a force for focus, and helps them get on with it. Notice that we didn’t do anything more than tell them how good the idea had to be. Once they knew that, they could do the rest.
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SETTING CHALLENGING GOALS
So, how do you get started? The best way to begin is with a hard-nosed look at your business’s current performance. Ask yourself, If I were to do something in the next three to five years that I, my boss, and my company’s investors would regard as a major win, what would this performance record have to look like? The answer will help you to create what we call the entrepreneurial frame. This is a specific, measurable challenge to enhance the value of your piece of the business. The frame provides focus and creates a sense of urgency for you and those you work with.
The entrepreneurial frame has two components. First, you should be clear on the minimum amount of additional profits you need from a new venture (at maturity) to make a difference to your business. You should stress profits, or bottom-line growth, not merely growth in sales revenues. Second, you need to specify what increase in profitability (meaning return on assets or equivalent number for your industry) your new opportunities need to achieve as well. Opportunities less profitable than your existing businesses are hardly likely to get anyone excited and are poor candidates for investment of either your time or your money. The exception to this general principle is in the case of disruptive technologies, which represent potentially important new solutions that don’t seem that way at first.1 More on these in chapter 4.
Note that this thinking doesn’t just apply to people who run profit centers. Even if you are running a cost center, you can still develop an entrepreneurial frame. In this case, you specify how to significantly reduce the costs and increase the asset productivity of your operation.
Try to make your goal a stretch, without making it ludicrous. If firms in your industry are growing profits at a rate of 5 percent a year, then expecting 10 percent growth from a new initiative may be reasonable. You decide what is possible—the main thing is to hone in on a number that will frame the challenge. Your job as a leader is to set challenges that push your fellow workers to the limits of their abilities without pushing them beyond those limits—a theme we will revisit several times.
Establishing a frame helps people to realize exactly what is expected of them. It can also begin to create a sense of urgency about becoming more entrepreneurial. For instance, we did some work with Hewlett-Packard in which we speculated on what a frame for HP might look like. Table 2-1 provides some baseline data.
TABLE 2-1
HP’s FRAMING CHALLENGE (BASED ON 1998 PERFORMANCE)
| Total sales | $47 billion |
| Net income | $2.9 billion |
| Net profit margin | 6.3 percent |
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CREATING AN ENTREPRENEURIAL FRAME
As you can see, to add 10 percent to the company’s profits at current profitability levels, a new business would have to generate $4–5 billion in sales! Not many brand new businesses are this big, which implies that HP would have to grow by developing multiple new businesses. At the same time, since HP is well positioned in a rapidly growing set of markets, has deep managerial and technical skills, and is able to form strong alliances with other firms, it is not unrealistic to think that the company could meet such a significant growth challenge.
The exercise in Table 2-2 will get you started on creating a working frame for your business. It’s meant to be a start; you will almost certainly want to elaborate on this as your ideas develop. This is the business equivalent of asking the MBA to find a business to start that will pay at least twice as well as getting a job on Wall Street. The major difference is that we are asking you to define how well your new business must perform to make a substantive contribution to what you are already doing.
Begin by finding out what your organization’s profits were for the last full year, and enter these in cell 1. Then enter your return on sales (profit margin) for the same period in cell 2. This should then allow you to calculate the revenues you needed to generate last year’s profits, by dividing profit by return on sales (cell 1/cell 2). Put this result in cell 3. Next, put your return on assets for the same period in cell 4. You can then calculate the assets you required to create last year’s profits by dividing profit by return on assets (cell 1/cell 4). Put this result in cell 5. What you now have is a very concise description of the performance that today’s business model is delivering.
TABLE 2-2
WORKSHEET:MAKING THE ENTREPRENEURIAL FRAME SPECIFIC
| CURRENT PERFORMANCE | DESIRED PERFORMANCE | |||
|---|---|---|---|---|
| Last year’s profits | Cell 1 | 200 | Cell 6 = Cell 1 × 110% | 220 |
| Return on sales (profit margin) | Cell 2 | 10% | Cell 7 = Cell 2 × 105% | 10.5 |
| Revenues required to produce profits | Cell 3 | 2,000 | Cell 8 = Cell 6 ÷ Cell 7 | 2,095 |
| Return on assets | Cell 4 | 15% | Cell 9 = Cell 4 × 110% | 16.5% |
| Assets required to produce profits | Cell 5 | 1,333 | Cell 10 = Cell 6 ÷ Cell 9 | 1,333 |
The next step is to specify how you need to improve on this performance by taking entrepreneurial action. To do this, specify the magnitude of additional profits that your business needs to deliver to achieve a compelling business result. Start off with, say, a 10 percent increase in profits. You can calculate this easily by multiplying the cell 1 figure by 110 percent and entering it in cell 6. Since your new businesses should be more profitable than your existing activities, specify a level of enhancement to return on sales that you require. Again, for illustrative purposes, let’s say that it’s a 5 percent improvement. As before, you can calculate this by multiplying cell 2 by 105 percent, and entering the result in cell 7. This will then allow you to calculate the revenues you’ll need to achieve that level of performance, by dividing cell 6 by cell 7. To reflect your need to improve your return on assets, the calculation would go into cell 9. You can then specify the assets allowed by dividing cell 6 by cell 9.
Simple though this exercise is, it can have a surprising amount of impact. If all the growth is going to have to come from new businesses, you can see how big they need to be (see chapter 9). If instead you need to perk up your existing operations, this gives you a sense for how significant the challenges are. Manufacturing or production people, for instance, can be asked whether improvements in asset utilization would allow you to achieve a better return on asset number. The sales and marketing groups can contribute their views on what it would take to improve sales revenues (and maintain profitability).
It isn’t enough, of course, just to specify a number and leave the subject. Turning this entrepreneurial frame into a living goal requires that you use it to direct the attention and manage the agendas of everyone in the organization. As a leader, your guidelines are straightforward: People pay attention to what you pay attention to, and to how this links to success and rewards in their careers.
Here’s a simple rule of thumb: If the activities that you decide are linked to achieving your goals are not among the first five issues on your personal agenda at every meeting you attend, in every conversation you have, and in every performance review you conduct, people will pretty quickly get the message that you don’t care all that much about them. On the other hand, if you are persistent (even boringly repetitive) and follow through with actions that reinforce your verbal commitment, soon people will understand that you mean it. From this belief, it is a small step toward getting them mobilized to do something about it.
Your entrepreneurial frame articulates the outcome of your strategy. It allows you to communicate your ambitions to others and allows them to understand the direction in which you are all taking the business. A robust frame will be particularly important to those who finance your undertaking, whether they are venture capitalists or shareholders. They will judge the value of your stock on their estimate of your prospects for adding value and on their judgment of your ability to execute your plans.
So far we have not urged you to declare a vision, a statement of mission, or other such grandiose thing. This is done quite purposefully. Developing a robust vision for a business is hard, time-consuming work that calls for real insight. If you are just getting started building an entrepreneurial mindset in your organization, you are probably better served by holding off.2 Rushing the process all too often results only in the production of one of those meaningless vision statements that gets laminated and bolted to the wall. We’ve all seen them—vapid phrases that fail to tap the company’s potential for entrepreneurial thought and action because they reflect neither its core capacities nor its real values.
A good example of the wisdom of not rushing the process—and of how to initiate entrepreneurial leadership—is Henry Schacht and Rich McGinn’s decision to take some time to sort out the entrepreneurial vision for Lucent Technologies early in the company’s development. In the fall of 1995 Schacht and McGinn were put in charge of managing Lucent’s divestiture from AT&T and its emergence as an independent company. As chief executive officer and chief operating officer, respectively, Schacht and McGinn faced the challenge of figuring out what the brand new company would be like. Schacht was a relative outsider, faced with a longtime AT&T management team. An initial public offering (IPO) was scheduled for April 1, 1996 (six months out). Worst of all, the workforce consisted of “143,000 terrified people,” who were wondering whether they still had jobs. What did Schacht and McGinn do? They made a conscious decision not to pronounce a strategy and vision at that time, as Schacht described recently to a class of McGrath’s.
What we decided to do was to do nothing. By that I mean that what we said to the 143,000 people was “Go back to work. We’re going to need some time to sort the issues out. We have a profit plan to deliver to AT&T, our owner, between now and the end of the year. If we don’t get that done, we’re not going to have anything to say with respect to the IPO.”
Next, we moved to stabilize all the required stakeholders. We quickly put together a group of sixteen people and told them, “You are our management team. We’re going to figure out where we are going and how we get there, without going outside the organization for talent. Until you prove you can’t do it, we’ll assume you can.”
We took those sixteen people and put them in a room and said, “We’re going to spend every Monday morning together and define for ourselves what our values are, and what our mission is going to be.” They were furious to be dragged into this when they had “real work” to do. We got a lot of foot dragging, a lot of cell phones going off in the meeting. They thought it was silly stuff and fought the process initially. We ended up going off campus and banning cell phones and long bathroom breaks. We stuck with it for the better part of two and a half months. Gradually, the team began to come together. Simultaneously, Carly Fiorina (now CEO of Hewlett-Packard) led a team benchmarking the very best in our industry; we wanted the group of sixteen to understand the metrics that defined the standards of performance in high-tech companies. Carly and her team reported back their findings to the group as they were developed.
It became apparent to the gang of sixteen that Lucent was a low-growth, underperforming company operating in a high-growth, highperformance industry. The group’s mission development activities produced a statement describing aspirations to become a high-performance growth company delivering superior sustained shareholder value.
Carly’s benchmarking team provided the quantitative metrics of just what that meant; these became known as the Five Simultaneous Equations and brought specific performance measures to the mission statement. They provided the vital definition link between purpose and performance:
1. Move the top line from 1 percent growth to high teens growth while maintaining the world-class gross margins.
2. Increase R&D from 8 percent to 11 percent.
3. Reduce sales and general administrative expenses (SGA) from 27 percent to 19 percent.
4. Reduce the tax rate 4 percentage points.
5. Lift return on assets (ROA) from 0 to 1 percent.
We went to the IPO market stipulating these goals as achievable. They were our short-term performance targets. We then sent Carly and her team out to do a rough-cut strategy that could provide a more textured set of strategic statements. We adopted a “roughly right” strategy by the end of 1996 and made our first modest organizational changes then. We refined the strategy all during 1997 and adopted a more robust strategy late in 1997 and reorganized the company around the same management cadre.
The results are history. The investment bankers told the board in 1996 to expect the $23 opening price to erode initially, then recover to a modest premium by year end, and that a range of $40-plus could be expected a few years out. The stock was at $320 (on the same basis) by late 1999, four years after the company was formed and three and one-half years after the IPO; it was among the top half-dozen largest firms in the world in terms of market capitalization. All five simultaneous equation goals were achieved.
Same people, same markets, same technology; the only thing that changed was our expectation of ourselves. There is no other explanation available.
Several points here: People will set higher targets and achieve them if they set them for themselves. Self-set goals based on credible evidence (benchmarking) always exceed imposed goals. People will rise to the occasion if given the opportunity.
As one of Lucent’s “gang of sixteen” commented late in the process of mission setting, “We have been given the opportunity of a lifetime; we need to grasp this with an audacity of purpose and go for it.”
Notice the elements that made a crucial difference in Lucent’s emergence. First, the team began not with a statement of sweeping vision, but with a quantified idea of their aspirations. Next, they came together as a group to define what performance meant and establish some clear criteria. Further, they decided to be much more ambitious than their previous performance might have indicated was reasonable. It took time and teamwork for Lucent’s eventual vision to emerge, and for the leadership behaviors that made it such a success story to manifest themselves. We will expand these topics in chapter 12. For now, the key message is to begin your efforts to spark an entrepreneurial mindset with a clear picture of what your target aspirations should be.
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SETTING UP AN OPPORTUNITY REGISTER
The next step in creating an entrepreneurial frame is to decide on the format of your opportunity register—the place where you will inventory all the entrepreneurial ideas that emerge from applying the techniques we offer in the book and from other sources of insight.
As mentioned, one skill typical of successful entrepreneurs is the ability to hold onto their ideas over time, not necessarily moving on them right away, but not forgetting about them, either. A simple way to hold onto good ideas whose time may not be quite ripe is to create an opportunity register. The concept of the opportunity register was presented to us by a successful multiple-venture entrepreneur. His philosophy is that anyone who can access a full inventory of possible opportunities is unlikely to run out of good ideas for making the next competitive move or capturing the next prospect for growth. You want to store good ideas so that you can revisit them to see how new ideas might fit in, to determine whether the timing is right to implement older ones, or to figure out what to eliminate as your true strategic direction becomes more defined.3 The originator of the concept registered his ideas on index cards that he would scan periodically.
We like to keep our register in the form of a database because it is easy to scan (and less likely to get lost). That doesn’t mean it has to be complicated, though. A template for such a database is shown in figure 2-1, but we encourage you to discuss with your colleagues the type of register that best suits you and your business. Be it simple or sophisticated, the important thing is to decide how you will record and revisit the ideas that your team generates.
FIGURE 2-1
A SIMPLE OPPORTUNITY REGISTER
Field 1: Business concept. The business concept is a short description of the idea to be entered in the register. The initial business concept behind Amazon.com, for instance, was to offer an Internet-based service that allowed customers to search for and order discounted books for fast delivery. The company has since extended the concept to other products.
Field 2: Related trends. If you have come across important trends (in the marketplace, in technology, or elsewhere) that might have a bearing on the business concept, record this information here. Data on trends can help you anticipate whether and when a particular concept is feasible or potentially attractive. Conversely, trend data can help you identify when some ideas might become obsolete. For Amazon.com, trends to consider might be household penetration of PCs connected to the Internet and the willingness of consumers to buy over the Internet. The dark side of this trend is evident to local independent bookstores, whose business was already being threatened by big chain stores like Borders and Barnes & Noble—every book bought through Amazon.com (or a chain store) is a lost potential sale for the local independent bookstore.
Field 3: Key data. In this field you should record more specifics on an opportunity by linking the concept to numbers. Specifically, identify the key customer segments you want to address. For Amazon.com, the key segment would be computer-literate frequent book purchasers with time constraints, and the relevant numbers might include total books sold and where, the margins on books, the growth rate of various kinds of books sold, the value to the customer of not having to go to a bookstore, and so on. The key thing here is not to deploy armies of researchers to capture information but to have a place to put any important information you run across.
Field 4: Obstacles and barriers. Here you note what is stopping you from grasping the opportunity. Some great ideas can’t be developed unless certain barriers are broken down. These might be technological, market, regulatory, or even company-policy-related barriers. For instance, many experts believe that the Internet will not achieve its full potential as a mass medium unless several barriers are cracked simultaneously, including processor speed, bandwidth, and technology cost. It’s important to note such barriers as you encounter them because it will generally require some investment to dislodge them. (Obstacles and barriers are further discussed in chapter 5.)
Field 5: Company position. Here, you note any particular competences, skills, or resources of your company that might make the business concept particularly attractive or defensible (see chapter 6).
Field 6: Competition. Here you note your likely relevant competitors and their likely response to your idea. Opportunities that are widely known to be attractive are often attractive to a great many firms, meaning that sometimes they are actually not such great arenas to enter (see chapters 8 and 10).
Field 7: Sources. In this field, note the sources for all of the information you have obtained; you may need to tap these sources again or use them to validate the information you are using. Such sources might be publications, Web sites, or personal communications.
Field 8: Type. Here you determine and record what type of opportunity you are pursuing. As we explain later in the book, there are generally two types of opportunity: arena-building (which takes you into a major new competitive environment) or model-transforming (which is designed to disrupt the business model in a current competitive environment).
Field 9: Timing. Here you consider the timing. Will you carry out an outright launch, or will you invest in a positioning option, a scouting option, or a stepping-stone option? Later in the book, we provide you with guidelines for determining which option is best.
Some advice on nomenclature: To the extent possible, be consistent in the names you choose for particular concepts, opportunities, and barriers across the entire database. This will make it easier to sift through the database to determine which opportunities you want to pursue. Consistent naming can also provide you with insights into related applications or products that you might otherwise overlook if they are treated as totally different simply because they meet the needs of different customer segments. This is particularly important for companies that are organized functionally or by major customer group. Unbeknownst to you, your idea may already have been put to work in other units of your company or for similar customer segments. For instance, making a breakthrough in the weight of a battery might be important to customers manufacturing mobile phones, but could also be extremely important to those making portable toys, radios, personal digital assistants and other battery-operated devices. When spread across multiple markets, the opportunity is more substantial than it would be were it to be applied only to a single market.