The Strategy Design Process[1]
The task of developing a comprehensive strategy for a firm that integrates the Finance, Marketing and Operations functions is complex. Robert Kaplan and David Norton in The Strategy Focused Organization (Harvard Business School Press, 2001) have developed a generic strategy map template that they use in consulting work. The template is a starting point for the strategy design process and is tailored for a particular firm.
Kaplan and Norton claim that the template helps executive teams describe their strategies and dramatically improved the quality of their insights. The template facilitates great precision in defining the customer value proposition and increase awareness that internal processes, competencies, and technologies must be linked to that value proposition. The purpose is to foster a cause-and-effect mentality that encourages more innovative approaches to strategy implementation.
The template is also useful to analyze or reverse-engineer an existing strategy. Mapping what a firm is currently doing into the template should tell the story of the strategy. Starting with the structure of the template, you should be able to reverse the logic and deduce the current strategy.
Exhibit 1 is the template proposed by Kaplan and Norton. It’s very important to keep in mind that the positioning of a perspective on the template does not in any way indicate the importance of the idea. For example, the “Learning and Growth Perspective” at the bottom of the template is just as important as the “Financial Perspective” at the top. When properly constructed the strategy map should portray an integrated and logical description of how the strategy will be accomplished.
Exhibit 1 Kaplan and Norton's Generic Strategy Map
Financial Perspective – Whether companies use return on investment, return on capital employed (ROCE), economic value added (EVA), or some other value-based metric as the high-level financial objective, they have two basic strategies for driving financial performance: growth and productivity. The revenue growth strategy focuses on developing new sources of revenue and profitability. It generally has two components:
- Build the franchise. Develop new sources of revenue from new markets, new products, or new customers. This dimension of the strategy implies the greatest amount of change and requires the longest time to execute.
- Increase customer value. Work with existing customers to expand their relationship with the company. This component tends to be intermediate term in duration and focuses on processes that integrate the firm’s systems with the customer’s to make processes more efficient.
The productivity strategy features the efficient execution of operational activities in support of existing customers. Productivity strategies focus on cost reduction and efficiency. Like the revenue growth strategy, the productivity strategy generally has two components:
- Improve cost structure. Lower the direct costs of products and services, reduce indirect costs, and share common resources with other business units.
- Improve asset utilization. Reduce the working and fixed capital needed to support a given level of business by great utilization, more careful acquisition, or disposal or parts of the current and fixed asset base.
The productivity strategy generally yields results sooner than the growth strategy. Kaplan and Norton stress a balanced approach to ensure that cost and asset reductions do not compromise a company’s growth opportunities. They argue that companies that are in early-stage startup mode see opportunity for rapid growth and will emphasize objectives from the revenue growth side. Cost and productivity will be less emphasized, as these organizations spend heavily to develop and introduce new products and services and to extend into new markets and applications. Companies in the mature end of their lifecycle will emphasize the cost reduction and asset utilization components, as limited opportunities remain to find new customers or expand into new markets. Most companies are in the middle of their life cycle and employ a “profitable growth” strategy that requires a balance of the contributions from revenue growth and from cost reduction and productivity.
The Customer Perspective – This is the heart of the strategy and defines how growth will be achieved. The value proposition defines the specific strategy to compete for new customers or increased share of existing customer businesses. A clear definition of this value proposition is the most important single step in the development of a strategy map. This is how a company differentiates itself in the marketplace. The following are three different ways to differentiate:[2]
- Product leadership. A product leadership company pushes its products into the realm of the unknown, the untried, or the highly desirable. Sony Corporation and Intel Corporation epitomize this strategy.
- Customer intimacy. A customer-intimate company builds bonds with its customers: it knows the people it sells to and the products and services it needs. The Home Depot, Inc has successfully executed this strategy.
- Operational excellence. Operationally excellent companies deliver a combination of quality, price and ease of purchase that no one else can match. Good examples of these companies are McDonald’s Corporation, Southwest Airlines, and Dell Computer Corporation.
Treacy and Wiersema claim that successful companies excel at one of these three dimensions of value while maintaining “threshold standards” on the other two. This is similar to Terry Hill’s concept of “order winners” and “qualifiers” described in the previous section. For example, The Home Depot differentiates itself through the knowledge and helpfulness of its sales staff. The company must still have excellent product selection, high-quality inventory management, and reasonable prices, but these are not the primary reasons for its targeted customers to shop there. As a contrast Intel, Sony and many pharmaceutical companies succeed by offering the best product for their customers’ needs. Prices of product leadership companies are generally high and service is adequate but not necessarily exceptional. Companies such as McDonald’s Corporation that stress operational excellence excel at being competitive on prices, customer-perceived quality, and lead-time response.
The Internal Perspective – This defines the business processes and the specific activities that the organization must master to support the customer value proposition. It is important that strategy not only specify the desired outcomes, it must also describe how these outcomes will be achieved. As Michael Porter states, “The essence of strategy is in the activities – choosing to perform activities differently or to perform different activities than rivals.”[3]
The activities of an organization are embedded in the internal business processes that comprise its value chain. Kaplan and Norton’s template segments the value chain into four sets of business processes. These processes align with the three customer value perspectives just introduced, and add a fourth perspective that being regulatory and environmental considerations.
Here it is important to stress the importance of Operations Management. Operations Management is all about the design of effective business processes. Whether we are talking about the management of a sales force executing a Marketing Plan, a group of Finance wizards managing an investment portfolio, or a factory making jet aircraft these processes must be designed so that they operate effectively. Operations Management is all about designing and managing these processes.
A product leadership strategy would require a leading-edge innovation process that creates new products with best-in-class functionality and brings them to market rapidly. Customer management processes might focus on rapid acquisition of new customers to consolidate the early mover advantage that a product leader creates.
A customer intimacy strategy requires excellent customer management processes such as relationship management and solution development. The innovation process would be motivated by the needs of targeted customers, focusing on those new product developments and service enhancements that contribute to better customer solutions.
A strategy of operational excellence emphasizes cost, quality, the quickness of operating processes, excellent supplier relationships, and speed and efficiency of supply and distribution processes.
It is not uncommon to see companies that claim to have a strategy of innovation or value-adding customer relationships but choose internal business process that focus on cost minimization. Cost minimization implies an emphasis on efficiency, high labor productivity and standardization. These companies have a complete disconnect between the internal and customer perspectives of their strategy.
A strategy of regulatory and environmental excellence is important for companies such as telecommunications and utilities, whose prices and operations are regulated to some extent by the government. Companies whose operations entail significant Environment, Health and Safety (EHS) risks need to comply with regulations in the communities where they operate. Beyond compliance, these companies may even seek to achieve a reputation as a leader to enhance their ability to recruit and retain employees, and to maintain and expand their physical presence in communities. When such regulatory and EHS considerations are important for a successful strategy, companies may include several objectives in a “good corporate citizen” theme in the internal perspective.
The Learning and Growth Perspective – This defines the intangible assets needed to enable activities and customer relationships to be performed at high levels of performance. There are three principle categories:
- Strategic competencies: The strategic skills and knowledge required by the workforce to support the strategy.
- Strategic technologies: The materials and process technologies, information systems, databases, tools, and network required to support the strategy.
- Climate for action: The cultural shifts needed to motivate, empower, and align the workforce behind the strategy.
Learning and growth strategies are important for long term development of the firm. It is vitally important that a firm align human resources, information technology, corporate climate, and research activities with requirements from the strategic business processes and customer differentiation strategy.
Kaplan and Norton have developed their concept of “The Balanced Scorecard” to tell the story of how well an integrated strategy is being executed. They propose that an integrated set of measures be developed to track performance from financial, customer, internal, and learning and growth perspectives. Cause-and-effect linkages in strategy maps describe a path by which improvements in the capabilities of intangible assets get translated in tangible customer and financial outcomes.
Kaplan and Norton use the example of Rockwater, a division of Brown & Root Energy Services. Rockwater is an undersea contractor that does projects with major oil companies around the world. Rockwater developed a strategy to improve its return-on-capital financial performance through two strategic themes: operations excellence – reducing costs and improving quality, and customer management – developing long-term partnerships with targeted (Tier I) customers. Both themes required new capabilities and attitudes on the part of the workforce (see Exhibit 2).
Exhibit 2 Rockwater's Strategy Map
For the operational excellence theme, improved attitude and morale among employees led to a higher frequency of suggestions (linkage A1 in Exhibit 2). The suggestions in turn led to many improvements in work practices that significantly reduced the incidence of costly rework (linkage A2). The lower incidence of rework translated directly into lower project costs (A3), higher profitability, and a higher return on capital (A4). The project teams could also leverage their cost-reduction experiences into lower prices for future work for price-sensitive (Tier II) customers.
For the customer management strategic theme, the company observed that its most satisfied value-seeking (Tier I) customers were serviced by employees who had scored highest on measures of attitude and alignment with Rockwater’s strategy (linkages B1 and B2). These satisfied customers paid outstanding invoices with the shortest delays (linkage B3), thirty to ninety days faster than dissatisfied customers paid. The short collection period led to lower levels of working capital and higher cash flows leading directly (linkage B4) to an increased return on capital.
The linkages in strategy maps provide the recipes for transformation and value creation over time. Near term, value creation can focus on operational excellence; medium term, increasing customer value is important; long term, build the business through loyalty and new customers. Collectively, these perspectives ensure the short and long term performance of the firm.