Too many companies do not consider operations to be a source for innovation, but this area is ripe for developing innovative strategies for distributors, according to Karan Girotra, co-author of The Risk-Driven Business Model and professor of technology and operations management at the international business school INSEAD. Girotra recently spoke with Associate Editor April Nowicki about how to create a culture of questioning an existing business model, improving decision-making structure and empowering everyone to innovate.
MDM: What compelled you and your co-author, Serguei Netessine, to write this book?
Karan Girotra: We started out as folks who were studying operations and distribution systems. One thing that bothered us was that operations is thought of as a tactical function or something to prevent mistakes, or something to get efficiency improvements. But in most organizations we were working with, the operations weren’t positioned as a strategic innovation opportunity or thought of as a tool to differentiate from the competition.
Again and again, we’d meet people who wanted to really radically improve the systems in their companies. We interviewed top management at companies, CEOs at Fortune 500 companies, and almost everyone would say they wanted to innovate. But then we would dig a little deeper and ask: “What are you really doing for innovation?”
Outside of a few sectors such as technology and biotech, folks were calling it innovation, but in principle they were not doing much. Their versions of innovation were, at best, product improvement groups, R&D groups, but the claim of innovation being a strategic priority wasn’t really being realized in how they were doing things.
Not every company is in an industry where there are massive technological changes or improvements, but every company is in an industry where you have a business model, a distribution system, some operational systems. An operational system is a lever for innovation. This is a game that everyone can play.
So, the book came about from two places: One, the lack of how supply chains were being viewed or inadequacy in how they were being thought of, and second, trying to create a template for innovation as a game that everyone could play, not just a few companies in technology and biology and those technology-intensive sectors.
MDM: For many distributors, risk is something to avoid, and as a result, they might be leery of a “risk-driven business model.” How are you using this phrase in the book, and why should distributors consider it?
Girotra: Risk is usually thought of as a bad thing. It’s something that you want to limit, something you want to reduce the consequences of.
We’re viewing risk in a very different way. When we say the “risk-driven business model,” we are talking of two kinds of inefficiency which come out of the unknown.
The first inefficiency that all distribution and supply chain managers are very well aware of is information uncertainty. We do not know exactly what the customer will want. We do not know what our suppliers will give us. We don’t know what the production yield will be. We don’t know what the lead times in a certain step will be. We don’t know what the transportation times might be. That kind of information uncertainty exposes us to a risk.
The second kind of inefficiency is an alignment risk. While you might want to do something in your role in the supply chain, other parties might have different incentives and they might want to do different things. The incentives might not be aligned, and that exposes you to a risk of the actions of others.
The risk-driven business model is looking at these two sources of risk in your distribution supply chain and in your business model, using what we call a business model audit to identify these risks and then
using a set of templates to limit the impact of those risks. And by limiting the impact, it doesn’t always mean to reduce the risks. Sometimes the risk might increase a little bit in one dimension, but perhaps be better managed or be able to charge more for it.
Think of the apparel industry. Clothing has generally been made outside the main developed markets of the world, largely made in Asia. That was the model for a long time and from a supply chain or distribution point-of-view, the goal was always to get the costs low, which meant producing abroad and using cheap shipping methods, etc.
About 20 years back, a company called Zara completely changed the game in the apparel industry. The source of their change is a smart supply chain strategy. They like calling themselves “fashion followers,” even though they’re a fashion company, but “supply chain leaders.”
Zara abandoned this low-cost methodology and instead tried to make it a highly responsive supply chain. Rather than producing in Asia, they were going to produce locally. At the time, this was a European company so they started producing in southern Europe, perhaps in North Africa, all places which were within a day or two of the stores. The big impact was that rather than taking six months from deciding what kind of clothes you want to sell to having them in the stores, this company could reduce the time between designing and selling to around two weeks.
That fundamentally changed the information risk. If you’re making decisions two weeks before the clothes were to be sold, your exposure to not knowing what the market will want is smaller than if you’re making decisions six months in advance.
That’s a risk driven business model. You’ve reduced this information risk, and rather than thinking of this risk as just a bad thing, you’re really thinking of it as an opportunity to innovate.
MDM: Industrial distributors are often looking to expand their product offerings. How can they evaluate risks to choose the right items?
Girotra: Offering more variety offers customers more choice, but from an operations point-of-view, it can come at a cost. In the book, we talk about two strategies, in particular this consequence of having too much variety exposing you to more risk.
The first strategy is one that many large companies have used, which is about creating the appearance of variety while operationally not changing what you make too much. Perhaps the most common place this strategy was used was the auto industry. They’re not necessarily stocking that many different products, because they can make different variants from the same components.
Volkswagen was the company that pioneered this and now many other companies do it too, which is building platform products. You might buy an Audi TT, an Audi A3 or a Volkswagen vehicle. Very often, all these cars will share a lot of components amongst them.
Another variant of that is last-minute customization, where you have a common core and then you can tweak a little bit at the end of the production process to create the appearance of variety while not having significantly changed the base product offering. The exact implementation of that depends on the product design, sometimes it requires that you redesign the product or the system or the supply chain.
Another, somewhat different-sounding strategy, but one that has the same effect, is trying to become more focused. Say you’re a company that sells both high-end and low-end products. Sometimes it is helpful to break that into two branches from both marketing and operational standpoints.
A powerful example of an industry where this focus is helping a lot is health care. There’s a new trend of creating focused clinics that really only do one thing, and they do it very well. As a group at the corporate level, the hospital might still offer a lot of facilities, but delivery and operations are segregated into different, focused units.
MDM: In the book you talk about the “four W’s” of a business model – what, when, who and why – and you propose changing them to eliminate efficiencies. Could you talk a little bit about this process? Is one of the W’s more influential than the others?
Girotra: The process of trying to change a business model to have a radical impact on your business really starts by identifying the information and alignment risks by completing a business model audit.
Once you have those risks, we provide four different templates for programmatic changes that can be made to the business model which provide opportunities. If you made those changes, it could potentially be game-changing for your organization.
The first template changes what decisions are made in the organization. There are also templates for when those
decisions are made, who makes those decisions and why those decisions are made as they are made.
The one that is perhaps the most accessible in the context of distribution and supply chain management is changing when the big decisions are made.
We talked about the example of Zara, which delayed when the decisions were made. Of course, this was enabled by the responsive supply chain, but fundamentally it was about changing when the decisions were made.
Another great example of changing when decisions are made is not just about firm-level decisions, but sometimes changing when consumers choose what they want to buy. A consumer might want to place an order and want the product delivered as soon as possible. Sometimes, we can improve on that.
Sometimes we can tell a certain group of customers that if they book well in advance, we’ll give them a discount on the price. That will give us some advance information on what we need to manufacture or have in stock.
Another variant of this “when” strategy is the use of customer voting systems. These can be helpful on a demand-management side. Before you make something, sometimes even before you design a product, sometimes before you ship a product, sometimes before a product goes from the manufacturer to the distributor, you ask customers to vote on what they want you to do. Do they want X type of product or Y type of product?
The more interesting part is that by doing this, you obtain information from the customers on what they want to buy. You obtain this information in advance and you can use it to better manage your supply chain and organize your distribution processes. So that’s an example of changing when decisions are made and the template that goes along with the “when” of business model decisions.
There are other templates, the “who,” and “why” templates which along with the “when” and “what” templates – each one of them provides a programmatic way to challenge the way you’re doing things and make you think about them differently and help you come up with innovation opportunities.
MDM: In some cases, people who have the power to make these changes are too close to their businesses’ core values and operations to see where change needs to happen. Besides wanting to change, what’s the most important thing to acknowledge or do in first steps?
Girotra: I think lots of business owners who have built their businesses, it becomes an extension of their personalities. Changing that is not always easy.
They need to have some kind of system for questioning how they do things. Even in relatively small, privately-held companies, one needs to create a culture of different levels of the organization questioning why they’re doing things the way they’re doing them. Ask, “Is this the best way to organize our business? Is it the best way to just wait for customers to tell us when they want things? Perhaps we can do better by being proactive and offering them discounts if they do it earlier.”
But there’s another part that plays into that. Culture is great, but even if they’re motivated and incentivized and thinking about it, sometimes it doesn’t play out unless you empower people with a system and tools to make change happen.
There is some value in educating yourself as a business owner and educating your employees and empowering them with systematic, programmatic tools to embrace change. What we see often in companies is folks are motivated to make it happen, but the process is too unstructured. Unless they provide more systematic guidelines, it’s really hard and sometimes it ends up being, “Let’s stare out in the blue sky and hope for a great idea to strike us.”
That works once in a while but not always. What I think is important is systematic structure and tools to help people come up with ideas.
That’s what we wanted to provide in the book. A toolkit which almost anyone with some knowledge of the business can apply, it doesn’t require any mathematical expertise, any technological expertise. It’s a game everyone can play, and business model innovation can be realized in more and more organizations.
The Risk-Driven Business Model is available for purchase on Amazon.com. Listen to Nowicki’s interview with co-author Karan Girotra at mdm.com/executivebriefing.