How to Build a Foundation for Sustainable Competitive Advantage – Value Creation Strategy #13
There is a lot of noise around digital transition, consolidation, manufacturers going direct, Millennials and Gen Z, and a host of other challenges facing distributors.
All are important, but without three foundational elements, distributors won’t be able to tackle any of these challenges with any great sustainable impact.
Effective Board Governance
Over more than 30 years of consulting, I have rarely experienced effective board structures in distribution, whether they are public or private. Some distributors have great ones — but they are the exceptions. Any board has three core responsibilities to their shareholders:
- Ensure that the executive team has brought forward a strategy that will create long-term growth in shareholder value
- Ensure that the right people (only the CEO and his or her direct reports) are in the right seats
- Ensure that the executive team is making adequate progress on achieving the strategy.
It sounds simple, but many firms get it wrong. A distributor playing at the A level today has an EBITDA margin of more than 10%, organic growth rates exceeding twice industry growth or more, and a demonstrated ability to make accretive acquisitions that over time account for half of the firm’s overall growth.
Any board should stay focused on these three foundational roles and continually work with the executive team and provide constructive challenges that move the business to this A level.
Most distributor strategies aren’t really strategies at all and often provide a false sense of security to executives and their boards. Most strategies, even with billion-dollar distributors, are developed in an echo chamber where the executives only talk to each other about themselves. They hold meetings, often with a facilitator, read industry reports, write on flip charts and produce a generic SWOT analysis. Then they make a list of all the things that they are going to fix and produce a hockey stick revenue forecast and call it a strategy.
Customer insight is the fuel for a strategy that drives competitive advantage. Customer insight allows you to create segments of customers based on what they actually are buying from you. The fancy word for this is behavioral segmentation. It is all about how your value proposition helps the customer make more money, grow into adjacent markets or overcome a critical constraint.
For something to be a real core competency it must meet three criteria:
- It is something valued by the customer
- It is expensive or hard for a competitor to duplicate
- It can be transferred to other products or markets.
Real competitive advantage always produces higher distributor profits from either customers that are paying a price premium or through lower cost advantages.
Willingness to Pivot
Any distributor’s business model consists of two components. First, the distributor must add some value to a group of customers. Second, the firm must have a way to extract value—i.e., get paid, for providing the value.
Today your customers have new choices provided by firms with different business models. Amazon is not a selling organization and, in fact, they don’t “sell” anything. They are a sourcing organization that helps customers buy.
Without new business models messing things up, distributors have all run businesses with cross subsidies. In construction channels, big customers were provided large price concessions while distributors charged high prices to small customers and walk-in counter trade. When big-box home centers came into the market in the 1990s, they captured much of the small contractor business leaving distributors financially exposed. The same thing is happening with Amazon and other new entrants who offer low prices, no sales reps and frictionless service and logistics. They skim out the high-velocity products and leave distributors with slow-moving and hard-to-handle product assortments.
In this pressurized environment, making the jump to the emerging model always looks like an expensive and high-risk step back. It is called jumping the S curve. As a result, executives and their boards stay the course with their existing model and eventually fade away. This cycle repeats itself over and over, even though everyone thinks that their business is different. Not one of America’s top 10 companies in 1967 remains a top 10 in 2017.
Blockbuster turned down an opportunity in 2007 to buy Netflix for $32 million. At the time, Jim Keyes, their CEO, was quoted as saying, “Neither RedBox nor Netflix are even on the radar screen in terms of competition.”
These firms weren’t run by stupid CEOs. The market and business models changed faster than the change in their own firms.
The traditional distribution model is rapidly reaching the end of its life cycle and those that fail to jump the S curve will end up like all the other businesses that couldn’t make the jump. Denial is more than a river in Egypt.
One can play the game to win or play it not to lose. Either are fine, but don’t make the mistake of getting these two very different options confused.
As you’re looking to solidify your position in the second half of 2020 in these uncertain times, prioritize these foundational pieces — an effective board, a customer insight-fueled strategy and a willingness to pivot — to avoid spending a lot of time, money and energy thrashing around without much progress.