Don Sull's blog

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.

• Pharmaceuticals. Spend billions on large R&D labs that produce me-too products. Invest additional billions on an army of salesmen who pester busy doctors to peddle their wares. Charge exorbitant prices in the face of ineluctable pressure to cut medical costs. When this doesn’t work, merge with competitors suffering from the same problems, adding all the complications of a large merger.  Hope for the best.
• Book publishing. Pay authors large advances without a clue whether a book will sell. Kill acres of trees, cover them with ink, convert them into expensive inventory, ship by the truckload into an inefficient distribution chain. If book sells well, run out of stock and miss sales. If it sells poorly, collect unsold copies and pulp them. Congratulate yourself that you are not in the music business. (ps, do you think its a coincidence that “kindle” means to set fire to inflammable material, like books?)
• All brokers (e.g., travel agents, real estate agents, speakers’ bureaus, stock brokers). Sit by phone, take orders, impose yourself between buyer and seller, complicate simple things to appear knowledgable, serve as a go between to look busy, pretend to listen to what customer wants then peddle whatever you have in stock. Charge high fees. Whenever possible, use industry jargon and speak authoritatively to convey an aura of expertise. Ignore how the Internet eliminates the information asymmetries that justified your role in the past.
• Fast moving consumer goods. Invest heavily to build brands. Hire high-priced marketing executives who wear fancy clothes and speak fast. Distribute your products through powerful retailers, like Wal-mart and Asda, which demand price concessions, promote house brands and generics, and copy any new products you introduce. Try to outrun price reductions through innovation. Ignore reality that most product innovations fail to create value, and all your competitors are doing the same thing.
• Law firms. Hire a host of highly-trained, expensive attorneys. Bill by the hour to encourage senior partners to generate busy work to boost billable hours. Resist opportunities to automate routine activities by embedding them in software or outsourcing them to low wage countries. Encourage colleagues to join clients as corporate counsel, so they can keep the chief purchasing officer from scrutinizing your fees.
• Emerging market conglomerates. Spread limited cash, managerial talent, and attention across several unrelated businesses, thereby ensuring you will not achieve global scale in any of them. Ignore evidence that emerging market companies that have succeeded globally, including Mittal Steel, AmBev, Bunge, and Cemex, have focused on a key business. Lobby government for protection.

The next post will describe some ways to minimize the chances of collapse if you have spotted dry rot in your business model.