In the midst of the present economic crisis, many managers fixate on the risks to their core business–slowing demand, falling prices, and scarce credit. Exclusive focus on the abundant bad news obscures a counter-intuitive but crucial truth about downturns–the worst of times for the economy as a whole can be the best of times for individual firms to create value in the long run.
The newspaper industry is collapsing, after decades of gradual decline. Unfortunately at this point, incumbents have few good options. No one knows the future, but my hunch is most traditional newspapers and weekly magazines in the US and UK will disappear, while others will hang on eking out minimal profits. A handful of survivors will continue to create economic value, probably limited to publications with outstanding quality, a clear point of view, and a distinctive voice (think the Economist, New Yorker, Financial Times, Wall Street Journal).
The decline and fall of the newspaper industry holds important insights for executives in other industries–including pharmaceuticals, law firms, and fast-moving consumer goods–that may be suffering from the early stages of dry rot. In particular, managers in these industries can avoid five mistakes that newspaper executives made as digital media began to erode customers’ willingness to pay for traditional print products.
The downturn has exposed flaws in business models, such as newspapers. Identifying basket cases after they have collapsed is easy, but by then it is too late to save them. The trick is to spot the weak spots in a damaged business model before it collapses, while management has the resources and time to fix it.
Long immersion in an industry can blind executives to flaws in their strategy and business processes. Managers can use a simple exercise to counteract the tendency to take an industry’s practices for granted. Imagine ten years from now, your industry’s dominant business model has collapsed. You write a cynical blog post explaining why the business model collapsed. Don’t shoot for balance but instead emphasize the weak spots that killed the industry. Below are a few examples of this analysis for some business models that look healthy right now, but collapse from dry rot in the future.
The decline of business models resembles the process of dry rot, which eats away at a building’s timber, such that it looks solid but is in fact susceptible to collapse. Business models decline when they no longer create economic value, and this decline typically occurs when customer’s willingness to pay decreases. Thus the main indicator of decline is falling prices exceed reductions in costs to produce the good. Slipping prices are the best, but not the only indicator of dry rot. Below are five symptoms to help you assess whether your company’s business model may be at risk of decline:
The gradual decline of a business model is often followed by an abrupt collapse. The decline and fall of an outmoded business model resembles the slow advance of dry rot. Dry rot is the deterioration of wood, in a building for example, which occurs when a fungus eats away at the cellulose that gives wood its hardness. The decay proceeds imperceptibly over time as the fungus erodes the timber’s solidity. In the advanced stages of dry rot, a wooden building can appear perfectly sound, but remains susceptible to collapse at any moment.
Most companies are suffering in the downturn, but they are not all suffering in the same way. For some firms the downturn is their only problem–a serious one to be sure, but also transient. For others, however, the recession reveals more fundamental structural problems with their business model or ability to execute. For these firms, the recession is a challenge, but not the root cause of their woes. Before setting a course of action, managers must assess whether their situation is good (strong execution on sound business model), bad (poor execution of good business model), or downright ugly (business model is broken).
For reasons of space, we did not list the references to research summarized in the survival in an age of turbulence article. Below are the citations, organized by key finding, with links to the papers themselves
Many companies are suffering in the current recession, and their leaders blame their struggles on the financial crisis. Many of these explanations are too simplistic. Below are five myths about business failure in a downturn to watch out for.
Myth 1: The downturn caused our problems. For most industries facing serious problems right now, including big losers like automobiles and print media, the recession is not the ultimate cause of their suffering. Instead the downturn reveals (and aggravates) fundamental flaws in their business model. When the tide goes out, as Warren Buffett famously observed, you find out who has been swimming naked. These business models were broken long before Lehman filed for bankruptcy, and will remain broken unless executives use the downturn to begin fixing them. Take General Motors. The automaker’s problems certainly did not originate with the current drop in consumer demand or higher retiree and medical costs. GM’s problems arise from the company’s inability, over decades, to make cars people wanted to buy. US car and light truck registrations more than doubled between 1970 (104 million) and 2006 (235 million). At the same time, GM’s market share collapsed from nearly 45% in 1970 to under 20% in 2009.
From the Business Life section of The FT: Survival in an age of turbulence
Most business executives these days would agree that companies operate in an era of exceptional turbulence. Lehman Brothers, they might point out, weathered the US civil war, several recessions, four financial panics, two world wars, depressions, oil shocks, and the terror attacks of 9/11, yet could not survive the current financial crisis.
Studies of the global economy tell a different story. Macroeconomists refer to a “great moderation”, based on a reduction in cyclical fluctuations in gross domestic product in recent decades in most high-income countries. In the US, for example, volatility in GDP was one-third less in the two decades after 1984 than it was in prior decades. Similarly, studies by financial economists find that aggregate stock market volatility in the US has remained flat between the 1920s and the late 1990s.
How can we reconcile the boardroom perception of growing turbulence with evidence of stability? Part of the explanation lies in the timing of the latter studies, which predated the present economic crisis. A more fundamental explanation has to do with level of analysis used to track volatility: moderation of aggregate measures, such as stock market indices and GDP, masks increased volatility at the company level.
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