Too often strategy doesn’t recognize what the company is great at and pulls the enterprise in too many directions. Successful companies grow by doubling down on unique capabilities competitors can’t match, argue authors of The Essential Advantage: How to Win With a Capabilities-Driven Strategy (Harvard Business Review Press).
Winners, on the other hand, define the fundamental identity of the company by developing a clear idea of what it does best and how it creates value for customers. They then hone a distinctive system of capabilities — one competitors can’t match — that will enable the company to deliver on the value promise and sustain lasting competitive advantage.
In The Essential Advantage: How to Win with a Capabilities-Driven Strategy (Harvard Business Review Press, December 2010) (www.theessentialadvantage.com), Paul Leinwand and Cesare Mainardi, Partners at Booz & Company, argue that many companies need to reset the way they develop strategy: The authors show how adopting a capabilities-driven strategy that starts inside the company, with what it already does best, can lead to a measurable performance premium in terms of higher EBIT, ROI and shareholder return.
To Earn the Right to Win and Grow, Companies Must Decide What They’re Great At
“Most companies would be better off leveraging what they already do well, but instead they are too focused on near-term growth and find themselves pulled in too many directions, trying to play and win in too many places. Sustainable growth, however, comes as a result of picking the markets that value what the company does better than anyone else,” said Leinwand. Companies like Walmart and PepsiCo play to win and, therefore, grow — while most companies simply play to grow, and therefore never really win in any market, according to The Essential Advantage.
“Successful companies excel in a focused, well-defined set of capabilities that they continually refine to strengthen their advantage; these companies also earn a premium in terms of higher revenue, faster growth, and higher shareholder value,” said Mainardi. “When companies chase opportunities outside their core areas of advantage, they find growth isn’t sustainable and they’re hit by what we call the ‘incoherence penalty,’ which is significant and damaging.”
Among the problematic symptoms and by-products of incoherence — of paying too much attention to external positioning and succumbing to pressure for excessive short-term growth — are:
- Being faced with too many options and conflicting directions, with no clear framework for evaluating them.
- Falling into the “adjacent market trap,” i.e., expanding into markets that are seemingly related but for which the company doesn’t have the capabilities to compete effectively.
- Emulating competitors and pursuing industry benchmarks rather than seeking differentiation.
- Hedging bets with multiple options, which reinforces complexity and raises costs.
- Bringing on more fixed assets, instead of building market-leading capabilities.
- Indiscriminately cutting costs, which can make the company weaker rather than stronger and more coherent.
Capabilities-Driven Strategy Builds Competitive Advantage by Investing in What Companies Already Do Well — and Aligns that with the Right Marketplace Opportunities
“The true source of competitive strength is what the company does, rather than what it sells. Companies just have to be clear about identifying it, and building strategy around it,” said Leinwand. Many successful companies, like Procter & Gamble and The Coca-Cola Company, develop a clearly defined…
- WAY TO PLAY: The company chooses a distinct approach to the market based on what it already does exceptionally well, and how it adds value for customers. Ways to play include being the innovator, the value player, the experience provider, and so forth.
- CAPABILITIES SYSTEM: The company identifies a system of three to six mutually reinforcing capabilities that enable it to deliver on its value proposition. Then it builds deep, scalable expertise in just a few areas and aligns all strategic and day-to-day decision making to take advantage of those capabilities. (The authors define capabilities as the interconnected people, knowledge, systems, tools, and processes that create differentiated value.)
- PRODUCT & SERVICE FIT: The company builds a product and service portfolio that is aligned with its capabilities system and its way to play. Products that require different capabilities are surgically removed from the mix.
The Essential Advantage makes the case that leaders that want superior performance must:
- Treat strategy and capabilities together (too many companies treat them separately).
- Focus on capabilities, which are often more important than assets (they’re difficult to leverage across businesses and tend to become obsolete).
- Treat capabilities as an integrated, self-reinforcing system (capabilities systems are nearly impossible for competitors to copy).
- Be disciplined in making portfolio choices (so businesses are in line with the company’s differentiated capability system).
- Avoid “strategy traps” that over-emphasize external positioning and attractive markets.
- Use capabilities as a context for cost-cutting, and use M&A (and divestitures) as a way to increase focus and strengthen capabilities systems.
About The Essential Advantage: How to Win With a Capabilities-Driven Strategy
Based on extensive research and providing a wealth of exercises, tools and company examples from industries and companies around the world — including Amazon.com, Pfizer, Inditex (Zara), Itaú Unibanco, and Walmart — The Essential Advantage helps decision-makers construct a strategically coherent company in which the pieces reinforce each other instead of working at cross-purposes.
The book reveals: why leaders should focus on a system of only a few differentiated capabilities; how to raise the top line by deploying capabilities for growth; how to uncover surprising opportunities in M&A that conventional deal makers don’t see; and to rework organizational structures and practices to become more coherent than competitors, and many other imperatives for success.
Visit www.theessentialadvantage.com to learn more about the book and www.strategyand.pwc.com/cds to see the latest on Capabilities-Driven Strategy.