Performing organizations enjoy what they’re doing.
Organizations have a gravity, the weight is constantly being pushed into being problem-focused, and one has to fight it all the time. Not very many organizations are good at what I call “exploitation of success.” Look at what is today the world’s largest consumer-electronics entertainment company: Sony. Basically, all Sony has ever done is run with the tape recorder and build on its success. But if you build that into the organization and demand it from everybody, then you create a receptivity for being opportunity-focused rather than problem-focused. And above all, you create enjoyment. I know this is not the academically respectable thing to say, but performing organizations enjoy what they’re doing. I’m always asked how I know what kind of an organization to accept as a client. When you walk through the door, you know in two minutes whether they enjoy it. And if they don’t enjoy it, then I’d rather not work for them. But if they like it and they feel that tomorrow is going to be better—that creates a totally different climate.
Only the fairy story ends “They lived happily ever after.”
Success always obsoletes the very behavior that achieved it. It always creates new realities. It always creates, above all, its own and different problems. It is not easy for the management of a successful company to ask, “What is our business?” Everybody in the company thinks that the answer is so obvious as not to deserve discussion. It is never popular to argue with success, never popular to rock the boat. But the management that does not ask “What is our business?” when the company is successful is, in effect, smug, lazy, and arrogant. It will not be long before success will turn into failure.
The two most successful American industries of the 1920s were anthracite coal mines and railroads. Both believed that God had given them an unshakable monopoly forever. Both believed that the definition of their business was so obvious as to eliminate all need for thought, let alone for action. Neither need have tumbled from its leadership position—the anthracite industry into total oblivion—had their managements not taken success for granted. Above all: when a management attains the company’s objectives, it should always ask seriously, “What is our business?” This requires self-discipline and responsibility. The alternative is decline.
Three pharmaceutical companies — Able, Baker, and Charlie — are among the most successful pharmaceutical businesses in the world. Able and Baker are very large. Charlie is medium-sized, but growing fast. All three companies spend about the same percentage of their revenues on research. There the similarity ends. Each of them approaches research quite differently.
Charlie Company does no research. It looks for areas where a fairly simple development can give it a near-monopoly position in a small but important area.
Charlie Company does no research. All it does is develop. It will not tackle any of the products Able or Baker companies consider attractive. It looks for areas in medical and surgical practice where existing products are not doing a good job, and where a fairly simple change can greatly improve the doctor’s or surgeon’s performance. And it looks for fields that are so small that once there is a truly superior products, there is no incentive for anyone else to go in and compete.
Its first product was a simple enzyme—actually known for forty years—to make cataract operations virtually bloodless and greatly ease the eye surgeon’s job. All the work that had to be done was to find a way to extend the shelf life of the enzyme. The next product was a very simple ointment to put on the umbilical cord of infants to prevent infection and speed up healing. It has become standard in every maternity hospital throughout the world. The company later brought out a product to replace the toxic solution with which newborn babies used to be washed to prevent infection—again, primarily a matter of compounding rather than discovering. In each area, the world market is so limited—maybe to $20 million—that a single supplier, provided it offers a truly superior product, can occupy a near-monopoly position with a minimum of competition and practically no pressure on price.
Three pharmaceutical companies — Able, Baker, and Charlie — are among the most successful pharmaceutical businesses in the world. Able and Baker are very large. Charlie is medium-sized, but growing fast. All three companies spend about the same percentage of their revenues on research. There the similarity ends. Each of them approaches research quite differently.
Baker’s aim is to come up with a small number of drugs in each field that are clearly superior and offer significant advances to medical practice.
The strategy of Baker Company is completely different. Its research lab, perhaps the most famous in the pharmaceutical industry, works in an enormous number of fields. It does not, however, enter a field until the basic scientific theoretical work has been done. Then it goes to work. Of every ten products that come out of its own laboratory, the company itself markets no more than two or three. When it becomes reasonably clear that an effective drug will result from a line of research, the company carefully scrutinizes the product and, indeed, the entire field. First, is the new product likely to be medically so superior as to become the new “standard”? Second, is it likely to have major impact throughout the field of health care and medical practice rather than be confined to one specialty area, even a large one? And finally, is it likely to remain the “standard” for a good many years, rather than to be overtaken by competitive products?
If the answer to any of these three questions is “No,” the company will license or sell the development, rather than convert it into a product of its own. This has been highly profitable in two ways. It has generated licensing income almost equal to the profits the company makes on the drugs it makes and sells under its own name. And it has assured that each of the company’s products is considered the “leader” by the medical profession.
Three pharmaceutical companies — Able, Baker, and Charlie — are among the most successful pharmaceutical businesses in the world. Able and Baker are very large. Charlie is medium-sized, but growing fast. All three companies spend about the same percentage of their revenues on research. There the similarity ends. Each of them approaches research quite differently.
Able’s aim is to gain early leadership in a major area, acquire dominance in it, and then maintain this leadership position.
Able Company—spends a great deal of research money on one carefully selected area at a time. It picks this area when pure research in the universities first indicates a genuine breakthrough. Then, long before commercial products are available, it hires the very best people in the field, and puts them to work. Outside of these areas, however, the company spends no research money and is perfectly willing not to be a factor at all. The company takes big positions in big fields at a very early stage, at great risk, but also at great reward.
While it lasts, the niche strategy is the most profitable entrepreneurial strategy.
What all niche strategies have in common is that they are unlikely to endure forever. One threat is for the niche to be outflanked, and especially by technological change. That happened to Alcon. Fifteen years after it became a worldwide near-monopoly, somebody in Czechoslovakia invented a new cataract operation, the implant lens, in which eye muscle has to be maintained rather than dissolved. And Alcon’s solvent became history.
Another threat is if a niche becomes the main mass market. That’s what happened to the Travelers Cheque. Before World War II, a European trip for Americans was still the rare exception. Now the transatlantic jets carry more passengers in two days between Europe and the U.S. than all the steamships carried in an entire year before World War II. And the new mass traveler uses a credit card. And when the automobile market became a mass market, in the U.S. during World War I and in Europe and Japan after World War II, the intense pressure to cut costs meant that to be the niche supplier depending on a specialty skill ceased to yield niche profits. These players were the ones, and still are, on which the automobile companies put the greatest pressure to cut prices. And they had no choice but to yield.
With the specialty-market strategy the innovator must create a small but profitable new market.
The final niche strategy is to establish a specialty-market niche big enough to be profitable but small enough not to make it worthwhile for potential competitors to invade it. For example, the most profitable financial product for twenty or more years, from 1919 until World War II and even a decade beyond, was the American Express Travelers Cheque—a specialty-market niche. The Travelers Cheque was much safer than carrying a lot of cash and usable everywhere—they were accepted, for instance, by every European hotel. Banks sold the Cheques and got a small fee for each transaction. This not only kept American Express from needing to market the Cheques, but it also discouraged the banks from launching a competing service. And American Express made oodles of money because Cheque owners would hold the Cheques for months, or even years, before cashing them, during which time American Express had the “float,” that is, the interest-free use of the money the Cheque holders had paid. Everyone in the financial industry knew how profitable the Travelers Cheques were. But the market then was so small that there was no point in any major bank trying to muscle its way into it.
If the specialty skill is properly maintained the innovator is usually protected against competition.
The second ecological niche is the specialty-skill strategy. Here the niche an innovator occupies is just as unique as in the tollbooth strategy, but it tends to be somewhat larger. For example, everyone can name the major U.S. automobile manufacturers. But how many people know the companies that make the brake pads or electrical circuits or headlamps that go into these cars? Those largely unknown companies occupy a specialty-skill position in an ecological niche. Developing high skill at a very early time in a new industry or market captures this position. Once the market begins to grow, the innovator has a significant head start over potential competitors and has already become the standard industry supplier.
The cost example is that of America’s leading twentieth-century inventor, Charles Kettering. Kettering aimed in all his inventions at creating a vastly profitable niche business. And his first, and probably the world’s most profitable invention, was aimed at creating a specialty-skill niche market. it was the self-starter. Until then, automobiles had to be started by cranking by hand, which was very hard and also quite dangerous. But for fifteen years or so, during the period of the most rapid growth in the automobile industry, every carmaker had to buy Kettering’s self-starter. It added very little to the cost of the car, maybe 1 or 2 percent. But Kettering’s profit margins were known to be around 500 percent or more.
