business strategy book by W. Chan Kim and Renée Mauborgne

Excerpts

Help! My Ocean Is Turning Red

these tools—like the strategy canvas, four actions framework, and six paths to reconstruct market boundaries—bring structure to what has historically been an unstructured problem in strategy

1 Creating Blue Oceans

2 Analytical Tools and Frameworks

As a brief introduction to these tools and frameworks, let’s look at one industry—the US wine industry—to see how these tools can be applied in practice in the creation of blue oceans.

despite its size, the industry was intensely competitive.

the number of wines was exploding. Yet the US consumer base had essentially remained stagnant

The intense competition fueled ongoing industry consolidation. The top eight companies produced more than 75 percent of the wine in the United States, and the estimated one thousand six hundred other wineries at the time produced the remaining 25 percent.

A simultaneous consolidation of retailers and distributors was also underway across the United States, something that raised their bargaining power against the plethora of wine makers.

In short, the US wine industry in 2000 faced intense competition, mounting price pressure, increasing bargaining power on the part of retail and distribution channels, and flat demand despite overwhelming choice

we turn to the strategy canvas, an analytic framework that is central to value innovation and the creation of blue oceans

The Strategy Canvas

First, it captures the current state of play in the known market space. This allows you to understand where the competition is currently investing, the factors the industry currently competes on in products, service, and delivery, and what customers receive from the existing competitive offerings on the market

The horizontal axis captures the range of factors the industry competes on and invests in.

the vertical axis of the strategy canvas, which captures the offering level that buyers receive across all these key competing factors. A high score means that a company offers buyers more

although more than one thousand six hundred wineries participated in the US wine industry in 2000, from the buyer’s point of view there was enormous convergence in their value curves

Their strategic profile follows a classic differentiation strategy. From the market point of view, however, they are all different in the same way. On the other hand, budget wines also have the same essential strategic profile.

To fundamentally shift the strategy canvas of an industry, you must begin by reorienting your strategic focus from competitors to alternatives, and from customers to noncustomers of the industry

By looking across alternatives, however, Casella Wines, an Australian winery, redefined the problem of the wine industry to a new one: how to make a fun and nontraditional wine that’s easy to drink for everyone. Why? In looking at the demand side of the alternatives of beer, spirits, and ready-to-drink cocktails, which captured three times as many US consumer alcohol sales as wine at the time, Casella Wines found that the mass of American adults saw wine as a turnoff.

The Four Actions Framework

It is by pursuing the first two questions (of eliminating and reducing) that you gain insight into how to drop your cost structure vis-à-vis competitors

The second two factors, by contrast, provide you with insight into how to lift buyer value and create new demand

Casella Wines created [yellow tail], a wine whose strategic profile broke from the competition and created a blue ocean

number-one imported wine into the United States, surpassing the wines of France and Italy

By August 2003, it was the number-one red wine in a 750-ml bottle sold in the United States, outstripping California labels

[yellow tail] leapfrogged tall competitors with no promotional campaign, mass media, or consumer advertising for the initial years

FIGURE 2-3 - The strategy canvas of [yellow tail]

Casella Wines created three new factors in the US wine industry—easy drinking, ease of selection, and fun and adventure—and eliminated or reduced everything else

The wine industry criticized the sweet fruitiness of [yellow tail] wine, seeing it as significantly lowering the quality of wine and working against proper appreciation of fine grapes and historic wine craftsmanship. These claims may have been true, but customers of all sorts loved the wine.

[yellow tail] hit a home run in ease of selection when it made retail shop employees the ambassadors of [yellow tail] at its launch by giving them Australian outback clothing

The retail employees were inspired by the branded clothing and having a wine they themselves did not feel intimidated by

The simplicity of offering only two wines at the start—a red and a white—streamlined Casella Wines’ business model.

Casella Wines was the first company to put both red and white wine in the same-shaped bottle

So [yellow tail] broke with tradition and created a personality that embodied the characteristics of the Australian culture: bold, laid back, fun, and adventurous

the budget market, pricing them then at $6.99 a bottle, more than double the price of a jug wine at the time.

The Eliminate-Reduce-Raise-Create Grid

There is a third tool that is key to creation of blue oceans. It is a supplementary analytic to the four actions framework called the eliminate-reduce-raise-create grid (see figure 2-4). The grid pushes companies not only to ask all four questions in the four actions framework but also to act on all four to create a new value curve

Three Characteristics of a Good Strategy

When expressed through a value curve, then, an effective blue ocean strategy like [yellow tail]’s has three complementary qualities: focus, divergence, and a compelling tagline. Without these qualities, a company’s strategy will likely be muddled, undifferentiated, and hard to communicate with a high cost structure

The four actions of creating a new value curve should be well guided toward building a company’s strategic profile with these characteristics.

A look at Southwest Airlines’ strategic profile illustrates how these three qualities underlie the company’s effective strategy in reinventing the short-haul airline industry via value innovation

Focus

Looking at Southwest’s profile, we can see at once that the company emphasizes only three factors: friendly service, speed, and frequent point-to-point departures. By focusing in this way, Southwest has been able to price against car transportation; it doesn’t make extra investments in meals, lounges, and seating choices

Divergence

Compelling Tagline

“The speed of a plane at the price of a car—whenever you need it.” That’s the tagline of Southwest Airlines, or at least it could be.

As shown in figure 2-7, Cirque du Soleil’s strategic profile also met the three criteria that define blue ocean strategy

The canvas shows clearly the extent of Cirque du Soleil’s departure from the conventional logic of the circus

Reading the Value Curves

A Company Caught in the Red Ocean

Overdelivery without Payback

Strategic Contradictions

An Internally Driven Company

3 Reconstruct Market Boundaries

we found six basic approaches to remaking market boundaries. We call this the six paths framework

Instead of looking within these boundaries, managers need to look systematically across them to create blue oceans. They need to look across alternative industries, across strategic groups, across buyer groups, across complementary product and service offerings, across the functional-emotional orientation of an industry, and even across time

Path 1: Look Across Alternative Industries

Path 2: Look Across Strategic Groups within Industries

Path 3: Look Across the Chain of Buyers

Path 4: Look Across Complementary Product and Service Offerings

Path 5: Look Across Functional or Emotional Appeal to Buyers

Competition in an industry tends to converge not only on an accepted notion of the scope of its products and services but also on one of two possible bases of appeal. Some industries compete principally on price and function largely on calculations of utility; their appeal is rational. Other industries compete largely on feelings; their appeal is emotional.

When companies are willing to challenge the functional-emotional orientation of their industry, they often find new market space

Emotionally oriented industries offer many extras that add price without enhancing functionality. Stripping away those extras may create a fundamentally simpler, lower-priced, lower-cost business model that customers would welcome.

Conversely, functionally oriented industries can often infuse commodity products with new life by adding a dose of emotion and, in so doing, can stimulate new demand.

Two well-known examples are Swatch, which transformed the functionally driven budget watch industry into an emotionally driven fashion statement, or The Body Shop, which did the reverse, transforming the emotionally driven industry of cosmetics into a functional, no-nonsense cosmetics house

At the heart of QB House’s blue ocean strategy is a shift in the Asian barbershop industry from an emotional industry to a highly functional one

QB House was able to reduce the price of a haircut to 1,000 yen ($9) versus the industry average of 3,000 to 5,000 yen ($27–$45) while raising the hourly revenue earned per barber nearly 50 percent

Cemex, one of the world’s largest cement producers, is another company that created a blue ocean by shifting the orientation of its industry—this time in the reverse direction, from functional to emotional

In Mexico, cement sold in retail bags to the average do-it-yourselfer represents some 85 percent of the total cement market

the market was unattractive. There were far more noncustomers than customers. Even though most poor families owned their own land and cement was sold as a relatively inexpensive functional input material, the Mexican population lived in chronic overcrowding. Few families built additions

Most of families’ extra money was spent on village festivals, quinceañeras (girls’ fifteen-year birthday parties), baptisms, and weddings. Contributing to these important milestone events was a chance to distinguish oneself in the community

Cemex conservatively estimated that this market could grow to be worth $500 million to $600 million annually

shifted the orientation of cement from a functional product to the gift of dreams

At the foundation of Patrimonio Hoy was the traditional Mexican system of tandas, a traditional community savings scheme

lots are drawn

Think of it as a form of wedding registry, except that instead of giving, for example, silverware, Cemex positioned cement as a loving gift

The winner of the supertanda each week, however, did not receive the total sum in pesos but rather received the equivalent building materials to complete an entire new room. Cemex complemented the winnings with the delivery of the cement to the winner’s home, construction classes on how to effectively build rooms, and a technical adviser who maintained a relationship with the participants during their project.

Cemex went a step further, throwing small festivities for the town when a room was finished and thereby reinforcing the happiness it brought to people and the tanda tradition

benefited 1.9 million individuals and 380,000 families. For more than fifteen years (That sounds much smaller than the plan)

Similarly, with its wildly successful Viagra, Pfizer shifted the focus from medical treatment to lifestyle enhancement

Likewise, consider how Starbucks turned the coffee industry on its head by shifting its focus from commodity coffee sales to the emotional atmosphere in which customers enjoy their coffee

A burst of blue ocean creation has been under way in a number of service industries but in the opposite direction—moving from an emotional to a functional orientation.

Relationship businesses, such as insurance, banking, and investing, have relied heavily on the emotional bond between broker and client

Path 6: Look Across Time

Most companies adapt incrementally and somewhat passively as events unfold.

key insights into blue ocean strategy rarely come from projecting the trend itself. Instead they arise from business insights into how the trend will change value to customers and impact the company’s business model

We’re not talking about predicting the future, something that is inherently impossible. Rather, we’re talking about finding insight in trends that are observable today.

Three principles are critical to assessing trends across time. To form the basis of a blue ocean strategy, these trends must be decisive to your business, they must be irreversible, and they must have a clear trajectory

For example, Apple observed the flood of illegal music file sharing that began in the late 1990s. Music file sharing programs such as Napster

the trend toward digital music was clear. This trend was underscored by the fast-growing demand for MP3 players that played mobile digital music, such as Apple’s hit iPod

Apple capitalized on this decisive trend with a clear trajectory by launching the iTunes online music store in 2003.

Similarly, Cisco Systems created a new market space by thinking across time trends

trend that had a clear trajectory: the growing demand for high-speed data exchange. Cisco looked at the world as it was and concluded that the world was hampered by slow data rates and incompatible computer networks

Cisco’s routers, switches, and other networking devices were designed to create breakthrough value for customers, offering fast data exchanges in a seamless networking environment

Similarly, a host of other companies have created blue oceans by applying path 6. Consider how CNN created the first real-time twenty-four-hour global news network based on the rising tide of globalization. Or how HBO’s hit show Sex and the City acted on the trend of increasingly urban and successful women who struggle to find love and marry later in life and created a blue ocean that lasted six years

Conceiving New Market Space

4 Focus on the Big Picture, Not the Numbers

the second principle of blue ocean strategy: focus on the big picture, not the numbers

Focusing on the Big Picture

Drawing Your Strategy Canvas

Step 1: Visual Awakening

A common mistake is to discuss changes in strategy before resolving differences of opinion about the current state of play.

Step 2: Visual Exploration

Getting the wake-up call is only the first step. The next step is to send a team into the field, putting managers face-to-face with what they must make sense of: how people use or don’t use their products or services

Step 3: Visual Strategy Fair

Step 4: Visual Communication

Visualizing Strategy at the Corporate Level

Using the Strategy Canvas

To see how this works, consider how Samsung Electronics of Korea used strategy canvases.

Using the Pioneer-Migrator-Settler (PMS) Map

A company’s pioneers are the businesses that offer unprecedented value. These are your blue ocean offerings, and they are the most powerful sources of profitable growth.

At the other extreme are settlers—businesses whose value curves conform to the basic shape of the industry’s. These are me-too businesses. Settlers will not generally contribute much to a company’s future growth. They are stuck within the red ocean

The potential of migrators lies somewhere in between. Such businesses extend the industry’s curve by giving customers more for less, but they don’t alter its basic shape

Overcoming the Limitations of Strategic Planning

5 Reach Beyond Existing Demand

companies should challenge two conventional strategy practices. One is the focus on existing customers. The other is the drive for finer segmentation to accommodate buyer differences

Instead of concentrating on customers, they need to look to noncustomers. And instead of focusing on customer differences, they need to build on powerful commonalities in what buyers value.

Callaway Golf. It aggregated new demand for its offering by looking to noncustomers.

By looking to why people shied away from golf, it found one key commonality uniting the mass of noncustomers: hitting the golf ball was perceived as too difficult

The Three Tiers of Noncustomers

The second tier of noncustomers is people who refuse to use your industry’s offerings. These are buyers who have seen your industry’s offerings as an option to fulfill their needs but have voted against them

The third tier of noncustomers is farthest from your market. They are noncustomers who have never thought of your market’s offerings as an option.

By focusing on key commonalities across these noncustomers and existing customers, companies can understand how to pull them into their new market.

First-Tier Noncustomers

A market becomes stagnant and develops a growth problem as the number of soon-to-be noncustomers increases

Yet locked within these first-tier noncustomers is an ocean of untapped demand waiting to be released.

Pret A Manger

Before Pret, professionals in European city centers principally frequented restaurants for lunch. Sit-down restaurants offered a nice meal and setting. However, the number of first-tier noncustomers was high and rising

Although there were numerous differences across them, they shared three key commonalities: they wanted lunch fast, they wanted it fresh and healthy, and they wanted it at a reasonable price.

On average, customers spend just ninety seconds from the time they get in line to the time they leave the shop. This is made possible because Pret produces ready-made sandwiches and other things at high volume with a high standardization of assembly, does not make to order

Beyond this, as with Callaway, restaurant-goers who were content to eat lunch at restaurants also have been flocking to Pret

Second-Tier Noncustomers

These are refusing noncustomers, people who either do not use or cannot afford to use the current market offerings because they find the offerings unacceptable or beyond their means

JCDecaux, a vendor of French outdoor advertising space

JCDecaux created a new concept in outdoor advertising called “street furniture” in 1964

municipalities could offer stationary downtown locations, such as bus stops, where people tended to wait a few minutes and hence had time to read and be influenced by advertisements

This gave it the idea to provide street furniture, including maintenance and upkeep, free to municipalities

Today, fifty years later, JCDecaux remains the number-one global leader in the street furniture-based ad market space it created

Third-Tier Noncustomers

Typically, these unexplored noncustomers have not been targeted or thought of as potential customers by any player in the industry. That’s because their needs and the business opportunities associated with them have somehow always been assumed to belong to other markets

Just think of the long-held assumption that tooth whitening was a service provided exclusively by dentists and not by oral care consumer-product companies

This potential applies to most industries. Consider the US defense aerospace industry

The Joint Strike Fighter (JSF) program aimed to challenge this industry practice.5 It looked to all three segments as potentially unexplored noncustomers that could be aggregated into a new market of higher-performing, lower-cost fighter planes

the performance of the JSF, now called the F-35, promised to be superior to that of the top-performing aircraft for the three branches then: the Air Force’s F-16, the Marine’s AV-8B Harrier jet, and the Navy’s F-18

Go for the Biggest Catchment

Because the scale of blue ocean opportunities that a specific tier of noncustomers can unlock varies across time and industries, you should focus on the tier that represents the biggest catchment that your organization has the capability to act on. But you should also explore whether there are overlapping commonalities across all three tiers of noncustomers

It is not enough to maximize the size of the blue ocean you are creating. You must profit from it to create a sustainable win-win outcome. The next chapter shows how to build a viable business model that produces and maintains profitable growth for your blue ocean offering

6 Get the Strategic Sequence Right

companies need to build their blue ocean strategy in the sequence of buyer utility, price, cost, and adoption

Testing for Exceptional Utility

compelling

To get around this trap, the starting point, as articulated in chapter 2, is to create a strategic profile that passes the initial litmus test of being focused, being divergent, and having a compelling tagline that speaks to buyers. Having done this, companies are ready to expressly assess where and how the new product or service will change the lives of its buyers

The buyer utility map helps managers look at this issue from the right perspective (see figure 6-2). It outlines all the levers companies can pull to deliver exceptional utility to buyers as well as the various experiences buyers can have with a product or service

The Six Stages of the Buyer Experience Cycle

The Six Utility Levers

companies should check whether their offering has removed the greatest blocks to utility across the entire buyer experience cycle for customers and noncustomers. The greatest blocks to utility often represent the greatest and most pressing opportunities to unlock exceptional value

Consider the Ford Model T

The greatest blocks to utility for the mass of people, however, were not in refining the auto’s luxury or stylish image. Rather, they had to do with two other factors. One was convenience in the use phase

The second block to utility was risk in the maintenance phase.

From Exceptional Utility to Strategic Pricing

This step ensures that buyers not only will want to buy your offering but also will have a compelling ability to pay for it

It is increasingly important, however, to know from the start what price will quickly capture the mass of target buyers.

There are two reasons for this change. First, companies are discovering that volume generates higher returns than it used to.

A second reason is that to a buyer, the value of a product or service may be closely tied to the total number of people using it

network effects

Step 1: Identify the Price Corridor of the Target Mass

Step 2: Specify a Level within the Price Corridor

From Strategic Pricing to Target Costing

company should start with the strategic price and then deduct its desired profit margin from the price to arrive at the target cost. Here, price-minus costing, and not cost-plus pricing, is essential

Part of the challenge of meeting the target cost is addressed in building a strategic profile that has not only divergence but also focus, which makes a company strip out costs.

Sometimes these reductions are sufficient to hit the cost target, but often they are not.

To hit the cost target, companies have three principal levers

The first involves streamlining operations and introducing cost innovations from manufacturing to distribution

Swatch

a second lever companies can pull to meet their target cost is partnering

A large part of IKEA’s ability to meet its target cost, for example, comes down to partnering. IKEA seeks out the lowest prices for materials and production via partnering with some two thousand manufacturing companies in more than fifty countries to ensure the lowest cost and fastest production of products in its IKEA lineup of some twenty thousand items.

Or consider German-based SAP, which after forty years remains the world’s leading business application software maker. By partnering with Oracle at its outset

SAP went a step further and also partnered with leading consulting firms, such as Capgemini and Accenture, to gain quick access to a global sales force and implementation team at no extra cost.

Sometimes, however, no amount of streamlining and cost innovation or partnering will make it possible for a company to deliver its target cost. This brings us to the third lever companies can use to make their desired profit margin without compromising their strategic price: changing the pricing model of the industry. By changing the pricing model used—and not the level of the strategic price—companies can often overcome this problem

NetJets, for example, changed the pricing model of jets to time-share to profitably deliver on its strategic price

Freemium is yet another pricing strategy some companies are using

strategically priced to capture the target mass while earning profit for the premium features those users, having used the product or service, will feel compelled to buy and upgrade to.

A business model built in the sequence of exceptional utility, strategic pricing, and target costing produces value innovation. Unlike the practice of conventional technology innovators, value innovation is based on a win-win game among buyers, companies, and society.

From Utility, Price, and Cost to Adoption

Before plowing forward and investing in the new idea, the company must first overcome such fears by educating the fearful

Employees

When Merrill Lynch’s management, for example, announced plans to create an online brokerage service, its stock price fell by 14 percent as reports emerged of resistance and infighting within the company’s large retail brokerage division

Business Partners

That was the problem faced by SAP when it was developing its product AcceleratedSAP (ASAP), a methodology for faster and lower-cost implementation of its enterprise software system.

The problem was that the development of best-practice templates for ASAP required the active cooperation of large consulting firms that were deriving substantial income from lengthy implementations of SAP’s other products

SAP resolved the dilemma by openly discussing the issues with its partners. Its executives convinced the consulting firms that they stood to gain more business by cooperating

The General Public

especially if the idea threatens established social or political norms

Consider Monsanto, which makes genetically modified crop seeds

While the issue of genetically modified foods is a large one, Monsanto’s mistake has been to let others take charge of the debate.

The Blue Ocean Idea Index

In contrast to these failures, consider NTT DoCoMo’s i-mode launch in Japan

More importantly, instead of using the Wireless Markup Language (WML) under the WAP standard for site creation, i-mode used c-HTML, an existing and already widely used language in Japan

i-mode turned out to be an explosive success.

The question is, How do you bring an organization with you to execute this strategy, even though it often represents a significant departure from the past? This brings us to the second part of this book, and the fifth principle of blue ocean strategy: overcoming key organizational hurdles, the subject of our next chapter.

7 Overcome Key Organizational Hurdles

8 Build Execution into Strategy

9 Align Value, Profit, and People Propositions

10 Renew Blue Oceans

11 Avoid Red Ocean Traps

Appendix A - A Sketch of the Historical Pattern of Blue Ocean Creation

AT THE RISK OF OVERSIMPLIFICATION, here we present a snapshot overview of the history of three American industries—automobiles, computers, and movie theaters

Appendix B - Value Innovation: A Reconstructionist View of Strategy

THERE ARE BASICALLY TWO DISTINCT VIEWS on how industry structure is related to strategic actions of industrial players.

The structuralist view of strategy has its roots in industrial organization (IO) economics

The reconstructionist view of strategy, on the other hand, is built on the theory of endogenous growth. The theory traces back to Joseph A. Schumpeter’s initial observation that the forces that change economic structure and industry landscapes can come from within the system.

Appendix C - The Market Dynamics of Value Innovation