In cost control an ounce of prevention is worth a pound of cure.
All of us have learned that it is much harder to get rid of five extra pounds than it is not to put them on in the first place. In no other area is it as true as it is in cost control that an ounce of prevention is worth a pound of cure. An absolute necessity is to watch like a hawk to make sure that costs do not go up as fast as revenues; and, conversely, that they fall at least as fast as revenues if there is a recession and revenues go down.
One example of a follower of this rule is one of the world’s largest pharmaceutical companies, a company that grew almost eightfold, adjusted for inflation, between 1965 and 1995. During those thirty years, it held cost increases to a fixed percentage of its increase in revenues; a maximum 6 percent rise in costs for every 10 percent rise in revenues. After five or six years of trying, it also learned how to make sure that costs go down in the same proportion as revenues go down in a down period. It took quite a few years to make this work; now it’s almost second nature in that company.
Customers do not see it as their job to ensure that manufacturers make a profit.
Most American and European companies set their prices by adding up costs and then putting a profit margin on top. And then, as soon as they have introduced the product or service, they have to start cutting the price, have to redesign the product at enormous expense, have to take losses—and, often, have to drop a perfectly good product or service because it is priced incorrectly. Their argument? “We have to recover our costs and make a profit.” But the only sound way to price is to start out with what the market is willing to pay and design to that price specification. To start out with price and then whittle down costs is certainly more work initially. But in the end it is much less work than to start out wrong and then spend loss-making years bringing costs into line.
Price-led costing is an American invention and over one hundred years old. It gave the General Electric company world leadership in electric generating stations way back in the early years of the twentieth century. That’s when GE began to design turbines and transformers to the price the customers, the electric power companies, could pay. They were designed from the price the customer could pay and was willing to pay; and so the customer could and did buy them.
Despite the emphasis on marketing and the marketing approach, marketing is still rhetoric rather than reality in far too many businesses. “Consumerism” proves this. For what consumerism demands of business is that it actually market. It demands that business start out with the needs, the realities, the values of the customer. It demands that business define its goal as the satisfaction of customer needs. It demands that business base its reward on its contribution to the customer. That after years of marketing rhetoric consumerism could become a powerful popular movement proves that not much marketing has been practiced. Consumerism is the “shame of marketing.” Indeed, selling and marketing are antithetical rather than synonymous or even complementary.
There will always, one can assume, be a need for some selling. But the aim of marketing is to make selling superfluous. The aim of marketing is to know and understand the customer so well that the product or service fits her and sells itself. Ideally, marketing should result in a customer who is ready to buy. We may be a long way from this ideal. But consumerism is a clear indication that the right motto for business management should increasingly be, “From selling to marketing.”
Henry Ford is supposed to have said: “We can sell the Model T at such a low price only because it earns such a nice profit.”
Of the top marketing lessons for the highly competitive twenty-first century, the most crucial one is the buying customers doesn’t work. The collapse of the Hyundai Excel was a spectacular marketing failure. There was nothing wrong with the car. But the company had greatly underpriced it. As a result, it had no profits to plow back into promotion, service, dealers, or improvements to the car itself.
How to define the market is the second lesson—the lesson of what was both a marketing success and a major marketing fiasco: the conquest of the American market by the fax machine. The Japanese did not ask, “What is the market for this machine?” Instead they asked, “What is the market for what it does?” And they immediately saw, when looking at the growth of courier services such as Federal Express, that the market for the fax machine had already been established. The next lesson is that marketing starts with all customers in the market rather than with our customers. The final lesson is that of the success of the new “pastoral” churches by exploiting demographic changes as a marketing opportunity.
High profit margin holds an umbrella over the competitor.
Most businesspeople are aware the profit is not the same as profit margin. Profit is profit margin multiplied by the turnover of capital. Maximum profitability and maximum profit flow are thus obtained by the profit margin that produces the optimum market standing and with it the optimum turnover of capital.
Why is the worship of high profit margin likely to damage—if not destroy—the business? It not only holds an umbrella over the competitor; it also makes competing practically risk-free and virtually guarantees that the competitor will take over the market. Xerox invented the copier, and in all of business history very few products have been as successful as the Xerox copy machine. But then Xerox began to chase profit margin. It put more and more gimmicks on the machine, each developed primarily to increase the profit margin. But each of these new accessories also increased the price of the machine, and what was probably even more important, each made it more difficult to service the machine. And the great majority of users didn’t need these additional features. And so a Japanese company, Canon, developed what was not much more than a replica of the original Xerox machine. The Canon model was simple and cheap, and easy to service, and it captured the U.S. market in less than one year.
Market domination produces tremendous internal resistance against any innovation.
A major decision underlying marketing objectives is market standing. One common approach is to say, “We want to be the leader.” The other one is to say, “We don’t care what share of the market we have as long as sales go up.” Both sound plausible, but both are wrong. It does not do much good for a company’s sales to go up if it loses market share, that is, if the market expands much faster than the company’s sales do. A company with a small share of the market will eventually become marginal in the marketplace, and thereby exceedingly vulnerable. There is also a maximum market standing above which it may be unwise to go—even if there were no antitrust laws. Market domination tends to lull the leader to sleep; monopolists flounder on their own complacency rather than on public opposition. Market domination produces tremendous internal resistance against any innovation and thus makes adaptation to change dangerously difficult. There is also well-founded resistance in the marketplace to dependence on one dominant supplier. No one likes to be at the mercy of the monopoly supplier.
The market standing to aim at is not the maximum but the optimum. This requires careful analysis of customers, of products or services, of market segments, and of distribution channels. It requires a market strategy, and it requires a decision of high risk.
First, the public-service institution needs a clear definition of its mission. What is it trying to do? Why does it exist? It needs to focus on objectives rather than on programs and projects. Programs and projects are means to an end. They should always be considered as temporary and, in fact, short-lived. Second, the public-service institution needs a realistic statement of goals. It should say, “Our job is to assuage famine,” rather than, “Our job is to eliminate hunger.” It needs something that is genuinely attainable and therefore a commitment to a realistic goal, so that it can say eventually, “Our job is finished.” Most objectives can and should be phrased in optimal rather than in maximal terms. Then it is possible to say, “We have attained what we were trying to do.” Third, failure to achieve objectives should be considered an indication that the objective is wrong or at least defined wrongly. If an objective has not been attained after repeated tries, one has to assume that it is the wrong one. Failure to attain objectives is a prima facie reason to question the validity of the objective—the exact opposite of what most public-service institutions believe.
Most innovations in public-service institutions are imposed on them either by outsiders or by catastrophe.
Institutions such as government agencies, labor unions, churches, universities and schools, hospitals, community and charitable organizations, professional and trade associations, and the like need to be entrepreneurial and innovative fully as much as any business does. Indeed, they may need it more.
The rapid changes in today’s society, technology, and economy are simultaneously an even greater threat to them and an even greater opportunity. Yet public-service institutions find it far more difficult to innovate than even the most “bureaucratic” company. The “existing” seems to be even more of an obstacle. To be sure, every service institution likes to get bigger. In the absence of a profit test, size is the one criterion of success for a service institution, and growth a goal in itself. And then, of course, there is always so much more that needs to be done. But stopping what has “always been done” and doing something new are equally anathema to service institutions, or at least excruciatingly painful to them. Most innovations in public-service institutions are imposed on them either by outsiders or by catastrophe. For example, the modern American university in the mid-nineteenth century came into being when the country’s traditional colleges and universities were dying and could no longer attract students.
