This is a story oft repeated in the management and leadership meetings every where. Annual/quarterly goals are set, and a “strategy” is developed to achieve these goals. These “strategies” then drive action items. Leaders are then measured on their performance against these strategic objectives.
In reality, most of the time this not strategy. The team is not working on strategy, but this may be what they believe. These are actions to optimize operations: doing what you are already doing, but doing it more efficiently and better.
Operational improvements are important and they can drive incremental profitability. But it can also create situations where independent groups are working on projects separately and do not align on one common objective. It could lead to stalled growth and margin pressure over time.
Strategy is a broader positioning statement. Instead of working to improve an underperforming product or service (as operational improvement would do), a strategic evaluation may call for the product or service to be eliminated and resources reallocated to activities that create greater value.
Operational improvement can deliver incremental efficiency gains. Strategy can deliver step jumps in profitability improvements.
What is Operational Improvement?
Operational improvement works at a tactical level. These are the quick wins. You already have the work well defined. Employees are familiar with the work and are doing it regularly in a set way. Operational improvement improves on how the existing work gets done.
Operational improvement = doing the same things better
Some of the examples are below:
- Cost reduction: For example, re-sourcing parts and raw materials and services from lower cost suppliers. Some of the ways to do this is competitive bidding process, moving production to low labor cost countries, negotiating cost reductions based on volume, etc.
- Process optimization: Example: You could re-architect the production process to remove unnecessary steps. You can redesign your products to reuse common parts. You can change your inventory management to JIT.
- Productivity gains: These involve training employees to do their work more efficiently. You can do timing studies on an assembly line to find opportunities to improve. Consider automating part or all of your workflow. Streamline approval processes.
- Resource utilization: You can work on minimizing idle time for employees and for your equipment by time-tracking, resource scheduling, and other ways. Batching similar jobs can reduce idle capacity as well.
Operational improvement should be a continuous activity but each operational improvement project should align with the overall business strategy. If these two are not aligned, it is possible to spend resources on inessential projects and starving profitable projects of resources and funds. This leads to sub-optimal results and eventually stalls growth and pressures the margins.
What is Strategy?
Strategy operates at a completely different level. While operational improvements takes a micro view of the enterprise, strategy looks at the bigger picture. Instead of asking the question “How can we improve this activity?”, it asks the question “What activities should we keep, what should we eliminate, and what should we add?”. Strategy chooses where and how to compete.
Consider the following as examples of strategy in action.
- Target customer selection: Start by finding out what the ideal customer looks like, where they congregate, what do they value, and how they buy. Once this is done, you can than establish the Price, Promotion, Place and People pillars of your marketing plan. Some of the typical choices could be upmarket customers versus downmarket customers.
- Value proposition: Given all the choices available in the marketplace, why should your customer choose your product? Your value proposition needs to be defined and your product differentiated from other products in the marketplace. Value proposition goes a long way towards building your brand equity, and it will help strengthen your competitive position. This could mean you operate in a very niche segment where your product is well differentiated.
- Competitive positioning: How do you compete and how will your maintain the competitive advantage that you possess? Is it price, quality, support and service, or do you have a unique product that only you can deliver? Your competitive advantages give you the ability to enjoy expanded margins, and your current and future competitors will take every step necessary to take a bite out of it. You need a strategy to defend your competitive position.
- Trade-offs: By pursuing one course of action, you are giving up an alternate. What are the trade-offs involved and how do you build the case to support your choices? For example, you may decide to prioritize wholesale channels over DTC. While this may increase revenues and market share, it comes with a trade-off of diluted margins.
Many of these strategy choices may involve you redesigning your product offering and maybe even changing your business model. Start-ups pivot all the time, and sometimes the pivots can be very drastic.
Why Companies Default to Operational Improvement?
Strategy is critical to businesses to thrive. However, most businesses plateau. A big part of the reason is that most businesses are pre-occupied chasing marginal operational improvements. There are very few leaders asking the big strategic questions. There are many reasons for this.
Operational improvements are easier to execute as there are no major trade-offs. in most cases the work process is well established and is an integral part of the daily routine. There are no training requirements, no new employees to hire and no new equipment to install.
Operational improvements carry less political risk. You are not stepping on anyone else’s turf or interfering with someone else’s pet project. These improvements are easier to build a consensus around.
Operational improvements deliver quick and short-term gains that are quantifiable and measurable. It helps the organization rally their troops around short term goals.
Operational improvements do not require realignment in the existing organizational structure. This preserves the cohesion in the ranks and makes these projects more acceptable to the management.
However, these initiatives are easily duplicated by the competitors and do not lead to a long term competitive advantage. Eventually the returns on these initiatives diminish and leads to margin compression over time as inertia and misaligned incentives come to the fore.
Why Strategy Drives Long-Term Profitability?
We have seen that operational improvements eventually hit a ceiling and stop being effective. Strategy on the other hand works to break through these ceilings and allow the company to compete at a higher level.
There is a difference between improving customer conversion rates within a niche versus repositioning so the addressable market size increases several fold. Ideally you want both, but as you can see Strategy delivers larger wins while operational improvements delivers incremental improvements.
Strategy is a long term process. Building a brand and shaping customer perception takes time. In return, it allows the company to enjoy greater pricing power and creates barriers to entry in the market. A differentiated product or service offering makes it harder for the competitors to compete and customers find the switching costs are high. This leads to higher return on capital that is defensible and enduring.
The Interaction Between Strategy and Operations
You don’t have to pick one or the other. Strategy and Operations are interconnected parts in the giant machinery that is your business. Stratgy sets the direction and Operations help the company move towards the vision efficiently. Strategy without execution fails and Operations without strategy will stagnate.
A bad strategy with great execution will lead to rapid failure. A great strategy with poor execution is a missed opportunity. A great strategy with strong execution leads to compounding advantage and enduring profitability.
(Bad strategy + poor execution just means that the company destroys value rather than creates value and should consider its options).
Diagnostic: Are You Working on Strategy or Just Improving Operations?
Ask yourself the following questions:
- Are we serving the right customer segment? (Y/N/Not Sure)
- Do we have pricing power? (Y/N/Not Sure)
- Is our differentiation clear and defensible? (Y/N/Not Sure)
- Are our profit margins similar of better than our competitors? (Y/N/Not Sure)
These questions will get you started. If the answers are unclear or No, you are probably too focused on operations and do not have a clearly outlined strategy to compete and grow.
Practical Next Steps
The most appropriate next step will depend on your specific situation. The following is a general guide to help you ensure the critical pieces are in place.
- Define your customer precisely. You can start by building your Ideal Customer Profile, ICP, for each product and service you provide. Focus groups and surveys will help in this process.
- Identify your true differentiation. What is the reason your customers return and purchase from you again? If you do not have any differentiation, investigate how you can create one.
- Eliminate non-strategic activities. These are the projects that do not contribute to your company vision and just eat up resources and funds. Eliminating these will not only reduce unnecessary expenses, but the resources that are freed up can be redirected into projects that are more strategic.
- Align operations to support positioning. This will help that all your wheels are moving in the same direction.
- Measure success beyond efficiency (pricing, retention, margins). Your strategic initiatives will span multiple years. Build in intermediate checkpoints to measure how your organization is progressing. For example, if you are expanding to a new country, you may track your progress by milestones such as licensing acquired, dealers signed, etc.
Drive behavior change in your organization to support your strategic objectives. Identify and bring the key stakeholders on board and set up regular check-ins to ensure everyone is on track. You will have to work to get necessary buy-ins, acquire budgets, allocate resources and set priorities.
Closing: The Leverage Shift
Most companies compete on efficiency. Few compete on positioning. The highest returns come from combining both. Don’t just get better at what you do, but also choose to do better things.
Photo by Jukan Tateisi on Unsplash