Market share used to be the best predictor and guarantor of profitability. But over the past decade, the classic rules of strategy have broken down. IBM, Kodak, United Airlines, Ford, and a host of other companies who succeeded in winning the market share game did not enjoy the profitability that was supposed to follow.
Today, profitability must be understood for each company on its own terms. For example, Intel, as well as consumer electronics companies and PC makers, creates profit from a simple time-based profit model. After a new product is introduced, cost comes down, but price comes down more rapidly. Large profit margins for these companies happen within the first four to five months of a new product launch. In this industry, a company may work very hard, have very talented engineers, and spend a lot of capital on factories. But unless it builds a business design that creates and maintains a two-year lead over the competition, it will reach only the break-even point.
Different still is the way profitability is created at SMH, the parent company of Swatch. SMH has built a product pyramid in which the layers perform different functions within the overall system. The Swatch layer at the base of the pyramid serves as a firewall brand, making it difficult or impossible for competitors to develop the economics that allows them to move up the pyramid. But 70 percent to 80 percent of the company’s profitability is derived from the three or four high-priced, high-margin, luxury watch brands at the top.
General Electric has probably answered better than anyone else the question of how manufacturers can make money. In the early 1990s, GE’s business model was based on the principal of being No. 1 or No. 2 or getting out of the business. By the mid-1990s, however, that was no longer true because GE’s customers—everyone from Wal-Mart to Boeing—began to focus on getting the lowest price. The profit had shifted to selling the full “package” not just the product, so GE began to develop services, solutions, and other ancillary activities to ensure profit growth.
Every company needs to create its own customized map of how profit happens in the business. Ask yourself:
What is the profit model by which my company makes money?
Is the company constructed and aligned to support the profit model, or is it set up to contradict the model?
Will today’s profit model endure into tomorrow, or must a different way of creating profitability be invented to ensure success in the next five-year cycle?
One final thought: Start with your customers’ priorities, not with your internal competencies. Find out which subsets of the customer base will have the greatest impact on future profitability. Only then can you determine which assets and competencies you need to build a winning next-generation business design.