Digital transformation poses great challenges and opportunities for companies around the world. To understand how Israeli businesses can meet this challenge, I spoke with Sunil Gupta, the field’s preeminent expert.
Sunil Gupta is the Edward W. Carter Professor of Business Administration and co-chair of the executive program on Driving Digital Strategy at Harvard Business School. He is the author of Driving Digital Strategy: A Guide to Reimagining Your Business. The Economic Sciences Prize Committee at the Royal Swedish Academy of Sciences has invited him to nominate people for the Nobel Prize in Economics multiple times.
What is the main idea of Driving Digital Strategy?
Technology is affecting every industry. Companies are trying to understand what to do to survive in this environment. But, their typical approaches do not work.
What are the typical approaches, and why don’t they work?
First, companies use technology to reduce cost and improve efficiency. Example mobile banking. But if that’s all your doing, you are ignoring that Amazon or AliPay may get into your business. You might be the most efficient bank, but also become the most irrelevant.
Second, unsure about the future, companies tend to do many digital experiments. Experiments are good but most large companies end up with hundreds of experiments throughout the organization that are tactical and do not add up to much.
Third, executives believe that it is hard to innovate in large companies, so they create a separate unit, hire smart people and give them millions of dollars to run it. However, most of them don’t work and the reason is quite simple. Creating a small “startup” by a large incumbent is like launching a speed boat. Often, the speed boat takes off, but the ship doesn’t change course.
So what should companies do?
You have to do two things in parallel – strengthen your core and build for the future. As a large company you have assets and customers. Use technology to strengthen and leverage these assets. Second, build for the future by rethinking your business strategy and operating model. In the book I describe 4 key things that a business needs to do for the future: reimage business strategy, re-evaluate operations, reconnect with customers, and rebuild organization. The challenge is to build for the future while you are still running your current business. This is like changing the engine of a plane while flying. Initially the plane is likely to take a nose dive before it climbs up, and that is a scary part for most organizations.
What can you tell us about Business strategy?
Take the example of Amazon and ask yourself what business is Amazon in? Is it an online retailer, a cloud services company (AWS), a hardware producer (Kindle), a streaming player (Prime Video), and the list goes on. Why is Amazon doing all these and what connects them? Kindle is designed to sell e-books (razor-blade strategy), Prime Video is designed to keep Prime members loyal to Amazon. Jeff Bezos has publicly said that when Amazon wins a Golden Globe award for its video content, it sells more shoes! This example shows that the rules of strategy are changing. Competitive advantage no longer comes from making your product better or cheaper. It now comes from complements and network effects.
What are Complements?
A great example of complements are selling razors for cheap, but making money on blades. Sell the Kindle cheap to make money on ebooks. Razor and blades have been around for a while, but what is different today is that razor and blades can be in completely different industries. For example, Amazon can disrupt banks by offering loans to small businesses at such a low rate that banks may not be able to compete. Why? Because Amazon can make money when these small businesses do more transactions on its platform. In other words, loans become the razor to make money on transactions (the blades). If Amazon makes banks’ core business its razor, banks won’t be able to compete.
How do network effects work?
Network effects provide increasing return to scale. Consider WhatsApp. If you are the only person in the world on WhatsApp, it does not have much value. As more people start using WhatsApp, its value goes up – without change in the product. Even if a company launches a better product than WhatsApp, it will have a hard time succeeding. So it is no longer about simply creating a better product.
Amazon has a two-sided network. The more sellers it has, the more buyers come to its site. And the more buyers it has, the more sellers it attracts. It becomes a virtual cycle. The result is that it becomes bigger and bigger. So it’s very hard for a new company to beat Amazon.
What role does Open innovation play?
Open innovation suggests that all the brilliant ideas don’t always exist inside the company and it is useful to crowdsource the skill and talent of outsiders. When NASA was having trouble solving one of the problems for the International Space Station, it created a competition that was open to anyone in the world for a small prize of $30,000. Hundreds of people around the globe applied and the winning entries solved the problem within a few weeks that puzzled NASA’s rocket scientists for months.
How can this approach help Israel startups?
Startups are nimble and not encumbered by old business models of large established companies. They are better able to see the shifts in markets and innovate. The rise of direct to consumer (DTC) brands, such as Dollar Shave Club or Glossier, is a good example. In the past, only large companies like Unilever had access to TV advertising and retail shelf space. But now a small startup can use digital marketing tools to reach consumers and sell directly to them.
Another approach for startups is to partner with large companies who are trying to reinvent themselves. BBVA in Spain is a great example. Francisco Gonzalez, the former chairman of BBVA, believes that banking products, such as mortgages or checking accounts, are being commoditized. In his view, banks in the future will be platforms that will connect their customers with new innovative fintech companies, much like what Amazon does by connecting its customers with third-party sellers. This way BBVA can provide startups access to its large customer base and startups can offer innovative products and ideas to BBVA.
How can small and medium-size businesses stay relevant?
Small and medium-sized businesses now have access to digital marketing tools to target their potential customers. They need to learn the skills of search engine marketing (SEM) and search engine optimization (SEO).
They also need to partner with aggregators. For example, restaurants need to partner with UberEats, and third-party sellers have to partner with Alibaba or Amazon. This can increase their reach beyond their local markets but it also poses new challenges about competing with sellers beyond their geographic boundaries.
Should companies invest in their own sites, or stay exclusively on Amazon?
It is easy and cheap enough to build your own site, so you should do both. If you are a small business, a large fraction of your sales might come from aggregators like Amazon. But as you grow, you may want to shift sales to your own site to avoid sharing commissions with Amazon and to also build stronger relationships with your customers.
Does this apply to large companies as well?
Online retailers like Amazon and Alibaba have become so powerful that large companies are finding it hard to avoid them – they want to go where customers shop. Most large companies also sell on these sites. However, many of these large players are trying to build their own ecommerce. So it creates a channel conflict. Nike avoided selling on Amazon for a long time, then it changed its mind and started selling on Amazon, only to reverse it again.
Can multiple channels cause conflicting interests?
Yes. Hotels work with sites like Booking.com but they want customers to book directly on their own website. Accor hotels in Europe tried to circumvent it by building a hotel aggregator site in partnership with other hotels, but it failed. Insurance companies have traditionally relied on independent agents, but as they move to ecommerce, it creates a conflict with agents.
Should businesses consider building their own site as a way to manage the risk of being removed from a platform such as Amazon?
You don’t want to put all your eggs in one basket. But this is not too different from what firms were doing before the internet. If I was selling to Walmart, I know that Walmart would squeeze me on price. And if I’m only selling to Walmart then I could go out of business if it stopped buying from me. It’s not really a new question, it’s a different form of it.