Tuesday, July 31, 2007

Learning from mistakes, part 72

It's time to indulge my latest obsession: learning from mistakes. (As I am currently transitioning from a Windows computer to a Mac, I'm getting plenty of opportunity to experience it myself.) While surfing the web I found two interesting articles on the subject.

First, here's a recent article from LiveScience that discusses research on what part of the brain is used when we learn from mistakes. According to research at the University of Exeter, in the UK, test subjects' lower temporal brain exhibited heightened activity--within 0.1 seconds--when the subjects saw information that contradicted a choice they had made.

And here is a December 2005 interview from ExpressIndia with Ela Gandhi (click here for an audio interview), one of the descendents of Mahatma Gandhi, wherein she paints a fascinating picture of him becoming the Mahatma by stumbling, then seeking to learn:

Though trying to follow in the footsteps of her grandfather, she sometimes falters. ‘‘I try my level best to be like Mahatma Gandhi. But, everytime I don’t succeed in following the Gandhian principles.’’

Then, she contemplates what went wrong and makes changes accordingly. ‘‘And that’s how I regain the Gandhian pathway. After all, making postive changes in yourself is one of the Gandhian principles.’’ Even the Mahatma was ‘born’ in a similar way. ‘‘You must know my grandfather was not born a ‘Mahatma’. Like us, he also committed mistakes. But he transformed himself, by learning from his mistakes. A practice not followed by many.’’

So, reflect on your mistakes, improve on them, and get a little bit closer to greatness.

(Photo: "Gandhi Ji" by vinish via stock.xchng)

Monday, July 30, 2007

Are complexity and design harming innovation?

At some level, it's makes sense that technological advances and the open-source movement have made tinkering with and improving on our favorite products easier. Think of Google Maps mash-ups, Firefox add-ons, videogame hacks, etc.

Yet the proliferation of closed, highly-designed manufactured products (think iPod) limits much of the innovation on these products to the companies that create them (and perhaps select partners). Such is the hypothesis posed by G. Pascal Zachary in Sunday's New York Times--"In a Highly Complex World, Innovation from the Top Down" (link).

And I can see his point. Think about cars. When I was a kid, you could open the hood of a car and see the engine's parts clearly; there was plenty of open space to work, and parts were easy to buy and, to some extent, install. Lots of people worked on their own cars.

Now open your car's hood. Chances are the engine is hermetically sealed, surrounded by wires and electronics and plastic, with not a square inch of empty space inside the hood. When's the last time you even changed your own oil?

On the other hand, the web and most recently the web 2.0 tools that have come into wide use can make everybody an innovator in terms of virtual goods--wikis, photo collections, videos, playlists, etc.

So, as manufactured products close up, information products open up. Whereas a teenager in the 1970's had a Radio Shack electronics project kit, now he has Facebook's API. The net result to innovation is hard to calculate. But the emergence of Google, YouTube, Facebook, MySpace, Flickr, etc., would argue that innovation is alive and well.

That's progress for you. You just hope your car, or your iPod, doesn't break.

Thursday, July 26, 2007

Virgin Mobile inside the numbers, part 2: let's talk about loyalty

Customer loyalty is perhaps the biggest profit driver in wireless--so big, in fact, that your wireless company employs many tools to enforce your loyalty to them. Among them are two- (and sometimes three-) year contracts with large early-termination penalties, handsets locked to use their network only, content you can't port, etc.

Why is loyalty so important in wireless? It comes down to four numbers: ARPU, CPGA, CCPU and Churn.

ARPU stands for Average Revenue per Unit and represents the monthly revenue for each subscriber on the service.

CPGA stands for Cost per Gross Add and is the cost the wireless operator incurs for each customer sign-up.

CCPU stands for Cash Cost per Unit and is the cost per month to support each subscriber.

Churn rate means how many customers disconnect from the service each month.

So, getting to Virgin Mobile. According to their S1 registration filing, here's how they fared on each of those metrics for 2006:

ARPU: $21.48
CPGA: $120.55
CCPU: $13.15
Churn: 4.8%

Massage the above numbers and you can learn some interesting things about Virgin's business. Their monthly gross profit per customer (APRU minus CCPU) is $8.33. They spend $120.55 to sign up a customer. This means that an average customer has to use the service for fifteen months before he becomes profitable. (And a business like Virgin, that's growing substantially, they is signing more new customers up, incurring more CPGA, with fewer old customers generating profits. That leads to net losses in the short term.)

With a churn rate of 4.8%, the average Virgin customer stays on the network a bit less than two years. Meaning there are only six or seven months to make profit from that customer. (Note that Virgin's churn rate is quite a bit lower than a typical prepay operator's churn, which can run upwards of 7% per month, yet is much higher than the postpay operators--e.g., Verizon, Alltel, AT&T--whose churn is around 1.5-3.0% per month, depending on the operator).

One way to summarize this is using a metric called lifetime customer value. According to a model from Harvard Business School, Virgin's lifetime customer value is $30.59. (Here's how I came to that figure. Please check my assumptions and math and let me know if you think anything needs fixing.)

If they could reduce their churn one percentage point, Virgin's lifetime customer value would rise to $64.18. More than double.

And that's why loyalty's important.

(For more on customer loyalty and how it drives the success and failure of businesses, read Fred Reichheld's book, "The Loyalty Effect.")

Wednesday, July 25, 2007

The race is on for plug-in hybrids

Today's New York Times writes that Toyota is preparing to test a prototype plug-in hybrid, creating a possible competitor to the Chevy Volt. Maybe this electron economy thing will happen after all!

By the way, Toyota, if you need test drivers in the Northeast US, drop me a line.

Tuesday, July 24, 2007

EDS rebounds thanks to alliances

After EDS was divested by General Motors in the late 1990's, IBM Global Services proceeded to clean its clock in the global outsourcing industry. EDS won a huge contract with the Air Force--hooray!--but soon found itself with a money-losing mess.

One outsider CEO--Dick Brown--came and went. His replacement was Michael Jordan (no, not that one), the guy who had somehow turned Westinghouse into CBS, which he finally sold to Viacom. (It's now CBS again.) The stock price fell from a high of over $70 in 2000 to under $15 in 2002. An EDS shareholder, like I was until a few years ago, wasn't a happy camper.

But something happened in the Jordan era. The company started to crawl back. As Jordan announced his retirement this week, the company's stock was trading near its 52-week high of $29.95.

One clue to the EDS renaissance was revealed in the Wall Street Journal (link - $$). EDS built a tight alliance with a group of leading suppliers and used the alliance to compete with IBM in megadeals (outsourcing deals with more than $1 billion in contract value). The alliance companies--Dell, Sun, Oracle, and others--brought strong horizontal technology capabilities to the table and were eager to compete with IBM for these large deals. And it worked. Writes Jim Carlson in the Journal article:

The alliance is helping EDS to outmaneuver rivals. In 2006, deals involving the alliance accounted for 40% of EDS's $26.5 billion in contract signings. So far this year, alliance-involved deals have accounted for almost half of the signings, say EDS officials.

The article also states that EDS created two centers for the alliance partners to work out of, in Plano, TX, and Auburn Hills, Michigan. Having the partners in the same office allowed the team to be responsive to customers--overcoming a major disadvantage of multi-company alliances.

No strategy is perfect. According to the article, EDS has kicked Dell out of the alliance, presumably for moving too close to EDS' sandbox with new services (another common issue with alliances). But EDS deserves plaudits for tackling a difficult task and making it work.

(Disclosure: I worked for EDS during the early-mid 1990's)

(Photo: "Red Arrows" by jerypank via stock.xchng)

Nintendo breaks into the senior set, too

Ah, serendipity. A few days after I posted about the Nintendo DS becoming a tool for the classroom in Japan, my local paper discusses the Brain Age tool and its use as a brain-fitness tool for senior citizens.

Ah, well. Sony and Microsoft obsess about the gamer demographic. Nintendo simply sells to everyone.

UPDATE: 25 July, Nintendo announces a 40% growth in yearly profits.

Virgin Mobile inside the numbers, part 1

As Virgin Mobile prepares for its initial public offering, I've been looking through its S1 registration statement. Being the first MVNO to go public in the US, Virgin's S1 opens up an entirely new window to what we know about the MVNO business.

And the first thing to do is to offer a mea culpa. After an MVNO post that I did in May, a reader sent me the following note:

John - I've read your blog. I'm surprised to find you pushing MVNOs. Are any MVNOs aside from Tracfone making money?

Here's my response:
To your question, while there's not much publicly available data on MVNO profitability, I'd wager that Virgin Mobile and Boost are highly profitable.
And my reader, giving me lots of opportunity to backpedal, wrote back, in part:
I don't believe Virgin is yet profitable, though to be honest, I don't follow the industry at all....
Well, it took 30 seconds of looking at the S1 to realize that my reader, who doesn't follow the industry at all, was right, and I was way wrong. Not only is Virgin Mobile not "highly profitable," it is not profitable at all. In its best year, 2006, Virgin lost $37 million on revenue of $1.1 billion.

Fred, time to square up on our wager. Tell me where to send the check.

Tomorrow: looking at Virgin's lifetime customer value

(Photo by rasidk via stock.xchng)

Friday, July 20, 2007

Perhaps advertising isn't the money pit people thought it was

The July-August Harvard Business Review contains a provocative article from Prof. Leonard Lodish of the Wharton School of Business and Carl Mela of Duke University on the decline of product brands ("If Brands Are Built Over Years, Why Are They Managed Over Quarters?").

We've looked at the phenomenon before from the private-label goods perspective, Lodish and Mela approach the problem from a different angle: rather than blaming Wal-Mart and other retailers for squeezing the value out of branded products by their price-cutting philosophy and private-label strategies, they fault the brand managers themselves, who favor price promotion strategies—-which bring a rapid response from customers—-over brand-building activities, such as advertising, which only work over the long term.

By examining data on baseline sales (i.e., sales levels without promotions), and performance during promotions periods, they document persuasively how certain brands fall into a spiral of commoditization by relying on discounted sales for an increasing percentage of their sales volume. Customers learn to stock up when the product is on special, and their perceived value of the product declines accordingly. Brand equity is eroded.

[Why do brand managers prefer promotions? Lodish's and Mela's reason, perhaps good fodder for another post, is that purchase data is useful immediately, while brand equity information is less tangible and takes years to identify trends.]

By contrast, companies who hold firm on price and invest in long-term brand-building activities, such as advertising, development of new distribution channels, and product innovation (exhibit A: P&G), show higher baseline sales levels and therefore more unit profit per sale.

Think it can't be done? Clorox bleach (a product ripe for commoditization if I've ever seen one) was able to raise retail prices 30% and turn a trend of revenue decline into growth by cutting promotions budgets and increasing advertising.

So, television networks, radio stations, newspapers: take heart. Perhaps marketers will fall in love with advertising all over again.

Wednesday, July 18, 2007

Send work to India? If you want to innovate, keep it close to home

Well, the bloom is off the offshoring rose (see this recent article in the Wall Street Journal). So it was with interest I read the interview with Michael Porter last week in the Harvard Business School Working Knowledge blog. In the interview, Porter makes the case that the synergy of industry clusters, like Toyota City or Silicon Valley, can overwhelm cost advantages from sourcing in low-cost regions.

It was even more interesting to learn that this item was originally published four and a half years ago.

Among other points, Porter makes a persuasive case that offshoring harms a company's ability to innovate.

Changing products and processes is more complex and time consuming across separated sites. Knowledge and technology are fragmented and dispersed. All these costs decline markedly within a cluster.
And, by contrast, a cluster contributes to the speed and quality of innovation.
In a cluster, a company can draw on a local supplier base, skilled people, specialized service providers, and local institutions that can provide training and perform research. Moreover, within a cluster there are many companies with which to partner. Being part of a cluster facilitates change and speeds innovation....
A similar argument was made in a New York Times article last winter, which argued that the Silicon Valley cluster allowed companies like Apple to succeed with technologies that other companies had launched with less success.

So, to innovate quickly and smartly, get close.

(Photo by levdavid via stock.xchng)

Tuesday, July 17, 2007

Toyota excels by revealing hidden problems

While some wags have predicted Toyota's imminent fall from grace, the company's management discipline and long-range outlook remain rare in the business world. In the July/August Harvard Business Review, Toyota CEO Katsuaki Watanabe engages in a wide-ranging discussion of the company's plans for the future.

It's a fascinating article, and a couple of passages caught my eye in particular. In them, Mr. Watanabe frankly confronts problems that Toyota has faced on the quality of its automobiles. Rather than sidestepping questions about the problems, or "bridging" back onto his marketing message, Mr. Watanabe addresses them analytically. An example:

In 1995 there were 26 Toyota factories; in 2007 there will be 63.... I realize that our system may be overstretched.

We must make that issue visible. Hidden problems are the ones that become serious threats eventually. If problems are revealed for everyone to see, I will feel reassured. Because once problems have been visualized, even if our people didn't notice them earlier, they will rack their brains to find solutions to them.

This revealing the hidden problem, not tolerating the "quiet fix," has been discussed in a prior post. But Mr. Watanabe goes on. He immerses himself in the company's mistakes, and gets actively involved in diagnosing and fixing them. Says Mr. Watanabe:

Soon after I became president, as you know, we confronted several quality-related problems. We created teams specializing in different areas and instructed them to analyze the root causes of problems in each area. We found that in several cases the problems had occurred because of design flaws or because of short lead times that didn't allow out engineers to build a sufficient number of physical prototypes. If we had thought about product designs more clearly or had the time to conduct more experiments, we could have avoided those problems.

Can you imagine GM's or Ford's CEO making such an admission in public voluntarily? I can't. Given this degree of candor and clear thinking, I can envision Toyota's quality problems lasting a short time indeed.