This course utilizes an inquiry based approach to understanding sources of competitive advantages in companies and other organizations.
Module 5 Part 5
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Entrepreneurial Strategic Management
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Week 5
How can companies deal with disruptions in the marketplace? Part 1
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Doug E Thomas, Ph.D.Professor
International Management, Anderson School of Management
So, as we saw with the Netflix case, disruption,
disruptive technologies, disruptive innovations,
disruptive products really play an important role in today's marketplace.
And we're going to look at another example that's perhaps not as high tech but
is just as powerful in understanding these predictive forces of disruption.
So, let's go back to the 1970s.
And I don't claim to be an expert on steel production.
There might be some of you who work in the steel industry,
that know a lot more than I do about this.
And so, I'm going to use Dr. Christensen's data on the steel industry,
this is his presentation, from that perspective,
or his research that's lead to this analysis.
So, in the early 1970s, steel, around the world
was produced in a very capital intensive and labor intensive manner.
And it was dominated by several companies.
Some companies were still very strong in the United States.
I say still because they're not today.
Some places in the United States,
like the city of Pittsburgh, were very important in the production of steel.
And there was this traditional approach to producing it, which, again,
was very expensive and drove the price of
steel to the levels that it was at, at the time.
So, in the early 1970s, the traditional approach were calling it,
to producing steel, as we said earlier, was capital and labor intensive.
This kept new entrepreneurs or new entrants,
new companies out of the industry because in order to make the investment
to produce steel of the quality expected by the average customer.
Recall the red line, the red dash line, the average expectation of
the average customer, costs an enormous amount of money.
It required a lot of upfront capital investment and
so there weren't very many competitors around the world and
that did raise the prices of steel to a certain level.
The requirements for investment and the lack of competition.
Well, in the early 1970s, a new technology emerged.
And that, we're going to call, was mini mill technology.
This was a new approach or a new way to produce steel.
Now I should mention right now at this very moment that many other technologies
emerged in the 1960s and early 1970s to produce steel that failed.
Many companies attempted to break into the marketplace and
take advantage of the high profit margins that existed.
Because they wanted to reap the benefits that the existing companies were enjoying,
the incumbents.
So, there were many technologies, and we're picking out now,
in retrospect, the one technology that did end up winning out.
But recognize that the traditional companies were managed by people who were
not stupid, who were not ignorant.
They saw all of these technologies, many of which came and went.
The mini mill technology was just one of many.
So, when mini mill technology came out,
the advantage was that it was much cheaper, much less expensive.
It required a much smaller up front investment.
So many more entrepreneurs could afford the up front investment.
So we call them mini mills because the footprint,
the physical footprint that was required, was smaller.
And again, I don't claim to be an expert on the whole entire process of steel
production.
But it just required fewer pieces of equipment and
allowed for a smaller investment.
And thereby more entrepreneurs.
There was only one major problem.
The steel produced in the early to mid 1970s,
by the mini mill companies was not good enough.
Remember I said that was a very, very important phrase.
So the green line of mini mill technology, and
the mini mills are disrupters here, in this model.
The green line was very far below the red dash line of average acceptable quality.
In fact, the mini mills by the mid 1970s,
were only able to produce the worst quality steel that customers needed.
And that steel is called rebar.
And something very, very interesting, what's going on in this marketplace,
which we see in many other disruption marketplaces, including our Netflix and
Blockbuster example.
Rebar was the lowest quality of steel.
It was the worst,
the simplest form of steel that customers needed for construction.
And it was also the smallest percent of the market.
It was only 4% of the entire market of steel produced and demanded.
So, the rest of the market was 96% and
it had the lowest profit margins for the existing, or traditional, steel companies.
In other words, they made the lowest percentage on this type of steel.
So, it was the smallest market and the least profitable.
It was the worst market for them.
So when the mini mill technology came out and
was only able to produce rebar, what the existing or
traditional companies, or the incumbents did, was actually celebrate.
Wow, we can get rid of this part of the market and use that
percentage of our production to make higher quality and more profitable steel.
We have limited resources, we can't make everything for everybody.
Rebar is not making us much money at all.
Let somebody else make it and we'll be happy.
Somebody has to make it because rebar is demanded for
the construction process, but let somebody else do it.
And so that's why at the top of this slide,
it says there were asymmetric motivations.
And that's what's going on when disruption occurs.
There's a difference in motivations, that's all asymmetric means.
One company has one type of motivation and the other company or
other set of companies has another sets of motivations.
Mini mills, what their motivation was to break into the market, which for
them at the time, was zero.
They had 0% of the market.
If they could gain access to the rebar market,
rebar would be 100% of their market, right, whereas it would only be 4% or
only was 4% of the traditional company's market.
And the other difference in motivation between the two sets of companies,
the mini mills and the traditional, is the profit margin.
It's not shown here on this slide, but all along this line, the traditional companies
had about half of the profit margins that the mini mills did.
So, for example, at the point where it says 7%, the mini mills,
and this is now in the late 1970s, had a 7% profit margin
on the rebar market, which was a 100% of their market.
And the traditional companies only made 3.5% profit margins on rebar made.
And it was only 4% of their total market share.
So, again, they had differing motivations.
The mini mills had double the motivation from a profit margin
perspective to make rebar work, and so they did.
And they eventually, by the late 1970's, early 1980's,
overtook completely, the traditional companies.
They moved up the green line on our previous slide.
They were making better and better progress at achieving more and
more of the market's demand or
average demand for utility provided by a product or service.
And so, what did they continue to do?
Well, by the early to mid 1980's, they started making the next highest
quality of steel which we see here is called angle iron or bars and rods.
Which was a larger segment of the market.
It was 8%, but still not a very significant segment of the market for
the traditional companies.
And the traditional companies only made 6%
profit margins on the bars and rods type of steel.
Whereas the mini mills were going to really boost their margins and
double their market, because now they were going to have a brand new source of sales.
And they were going to make almost double the amount of money in terms of
profit margin.
Double compared to the
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