Three Fundamentals

1.1 Three Fundamentals

Having lost a teenage brother to an auto accident in his youth, CEO Peter Lewis of Progressive Insurance was driven by a deep understanding of human needs surrounding auto insurance. Further fueled by his distaste for abysmal turnaround times on claims in the industry, Lewis decided—in the face of much resistance within his company—that Progressive would become a company with the capability of providing an immediate-response claims service. Progressive’s well-known growth from small niche competitor to one of the “Big 4” auto insurance firms owes everything to Peter Lewis’s intuitive, tenacious application of three basic principles of positioning strategy.Katz (2008, July 8). Also, Salter (1998, October 3) notes that proposition 103 highly regulated the insurance industry and cost Progressive $60 million in refunds.

The first principle is defining advantage from the perspective of customer value.Jaworski and Kohli (1990, December 7); MacMillan and Selden (2006); Sheth et al. (2000); Kim and Mauborgne (1997, January–February). Lewis saw dissatisfaction with response times where others in the industry did not. Further, he understood why it was important. Delay in claims processing causes inconvenience and adds stress to already stressful situations for drivers having had an accident who seek fast resolution and peace of mind. The second principle is developing insight about opportunity in a way that differentiates from the competition.Porter (1980, 1985). So while many firms in the industry would define their business purpose as “paying auto accident claims,” Lewis instead described Progressive’s as “reducing the human trauma and economic costs of automobile accidents.” Other competitors either did not recognize the opportunity or simply accepted poor claims-adjustment service and response time because all firms were following the same antiquated model.

Just developing a positioning strategy is not enough, however. The third principle centers around developing distinctive capabilities, resources, and assets to execute the positioning strategy.Wernerfelt (1984); Barney (1991); Porter (1996). Progressive built skill in technology development, process design, and human resources. Over a period of years, the company developed proprietary software and databases, specific selection and development skills for hiring and training employees, as well as a disciplined measurement culture to manage continuous improvement.

In sum, in his search for growth, Peter Lewis intuitively and persistently followed these three fundamental principles:

Create important value for customers
Be different from (better than) the competition
Build and leverage your capabilities with an eye toward the desired customer value

While almost simple enough to be intuitively obvious, it is easy to lose sight of these principles. In fact, there are a variety of forces that get in the way of their effective implementation.

Challenge 1: Limited Integration of Strategy Perspectives

It turns out that it is difficult for an individual—let alone a complex organization—to simultaneously hold the three principles of strategy in mind. Multiple goals imply multiple, often costly, efforts to achieve them. Potential conflict between, and trade-offs among, the three goals of beating the competitor, creating value for customers, and leveraging our capabilities make it natural for firms to treat them separately. Illustrative of this is a study of strategic focus in decision making, conducted by George Day and Prakash Nedungadi of the Wharton School, which found that 77% of the organizations studied had a “single-minded” focus;Day and Nedungadi (1994, April). that is, the organizations largely focused on either customers, competitors, or the internal workings of the company but rarely any of the three together. Three distinct types of firms were identified in the study: self-centered firmsFirms that focus on internal factors. (i.e., focused on internal factors; 33%), customer-centered firmsFirms that focus on their customers. (31%), and competitor-centered firmsFirms whose moves center on competitors’ moves and actions. (13%).

These single-minded views are suboptimal, however. Day and Nedungadi found that 16% of the firms they studied were market drivenFocus is jointly on competitors and customers., that is, focused jointly on competitors and customers, and that these firms reported significantly superior financial performance relative to the other firms in the study. Similarly, other research has found that a more integrated view of company, customers, and competitors leads to greater profitability.Slater and Narver (2000); Narver and Slater (1990); Kirca et al. (2005). Yet the striking point is that firms that do an effective job of integrating are in the minority. The more common tendency to be single-minded limits the search for growth opportunities and may be self-perpetuating.Hambrick (1982); Cohen and Levinthal (1990); Oxenfeldt and Moore (1978).

Challenge 2: Knowing Customers

Most decisions that involve customers are made without customer research. Firms have neither the time nor the resources to devote to every customer-related decision. Interestingly, though, even when sophisticated, large-sample research is conducted for particular decisions, it may frequently fall by the wayside because the research is shouted down by managers with prior agendas that contradict research findings.

Challenge 2a: Truly Understanding Customer Values and Beliefs

Although they may at times dismiss formal research, we know that smart managers talk to customers and know them, often over many years. So it is fair to say more informal research is the norm. In this sense, it is difficult for managers to believe that they “don’t know” customers. Yet there is much research that suggests the opposite. To understand why, consider a particularly telling study from University of Chicago researchers Harry Davis, Steve Hoch, and Easton Ragsdale. Davis and his colleagues asked pairs of experimental subjects to estimate each other’s preferences for new product concepts. The new product concepts were a mix of higher-priced durable goods, lower-priced durables and nondurables, and services. For each concept, each subject was asked to estimate both the probability that they would purchase the concept in the future and the probability that the person they were paired with would purchase the concept. Across four studies, which varied the amount of information provided for the concepts (verbal description only vs. verbal description and pictorial representation) and the dependent measure used, the authors found the same results. Despite showing confidence in their estimates, the subjects showed substantial error in predicting their partners’ preferences. Only about half of them predicted more accurately than a naïve forecast that used the average of the gender-specific preferences. The authors found a strong tendency for a person to use their own preferences for the new concept to predict the preferences of their partner.

The most remarkable thing about this research, however, is that the subject pairs were not strangers. Across all the studies, husbands were paired with wives.Davis et al. (1986). In spite of intimate familiarity with each other, spouses demonstrated significant error in projecting each other’s preferences, with error coming largely from two sources. First, the husband (or wife) tried to project their own preferences onto the other, when in fact their preference was not similar to their spouse’s. Second, when the husband-wife preferences were similar, error was introduced when the spouse overadjusted for what he or she thought would be a difference in his or her mate’s preference relative to their own.

This leads us to a key question: If people who live together and know each other intimately make such errors in predicting each other’s preferences, how can product and marketing managers NOT be subject to the similar errors in predicting customers’ values? There is a fair amount of academic research that finds significant error in managerial judgment of consumer attitudes, beliefs, and behavior.See Hoch (1988); Urbany et al. (1991); Parasuraman et al. (1985); Moorman (1998). Further evidence of this comes from surveys of our own executive students and clients. They predict customer beliefs with good confidence yet express significant surprise (and opportunity!) when they subsequently conduct primary research with customers.In the past year, 155 executive MBA students who have participated in 3-Circle projects have been surveyed about the insights they obtained from customer research required as part of the project. Sixty-three percent found insights from customers to be “very surprising,” while over three-fourths (76%) reported the research “suggested customer needs they hadn’t thought of before.” Of greater interest, though, is that 88% agreed that the customer insights “led to some obvious conclusions about what we should do.”

In fact, this should not be surprising. In the day-to-day operation of a business, the immediate challenges often center on internal concerns, which tend to be very concrete, top of mind, and unavoidable. Managers spend most of their time inside, managing people and resources. The capacities within the firm need to be organized, people need to be developed, budgets need to be met. There may in fact be a biasTo exhibit or characterize by bias or prejudgement. against spending time to understand the customer’s perspective on our products and services because hearing bad news would mean that our products, processes, people selection and development, and execution would have to be changed, which is no easy task. Instead, it is very easy to assume “we know the customer.”

Challenge 2b: Understanding Customer Evaluations of Competitors

While most companies ask customers how their company is doing, many do not seek comparative customer views of competitors. One firm, which we will call Food Supplier, Inc., for example, happily found—through interviews in a 3-Circle project with one customer segment (independent restaurants)—that the company was hitting on a number of important points of value for customers, many relating to delivery, warehousing, and sales support. Consistent with their expectations, this suggested that the company was providing customers a great deal of value. Yet the research also explored customer perception of competitor value. This produced the startling conclusion that the key competitor matched every point-of-value provided by Food Supplier, Inc., but it was also perceived as having far superior accuracy in deliveries and invoicing, as well as premium food quality at competitive prices. This analysis opened the executive team’s eyes to opportunities for a new process improvement program in operations and sales to enhance competitive superiority in key functional areas, as well as a new marketing program to clearly communicate the differential customer value created by these new internal programs. Since that implementation, the company has experienced increases in same-store sales and has extended these standardized processes to other areas of the company.

Common Strategic Mistakes in Evaluating Competitive Differences

Most of us face the difficulty of integrating relevant competitive, company, and customer facts, as well as the challenge of truly knowing customers’ natural biases. Some may argue that these difficulties work themselves out through learning and experience. But what seems to happen is often the opposite—these biases can lead to flawed judgment about competitive advantageAn advantage over competitors allowing it to generate more sales and retain more customers than the competition.. This is because we anchor our beliefs in these early observations and we are not likely to change them. In companies we work with, we see, over and over, the following three strategic errors that result from the biases discussed earlier:

We think we are different from competitors, but we are not really different in the customer’s eyes.
We are different from competitors, but in ways that are not really important to customers.
We are different from competitors in ways that matter to customers, but we do not have the resources or capabilities to build and sustain those differences.

In fact, what is needed is a way of thinking and a process that helps us to simultaneously think about customers, competitors, and the company, and that puts our existing beliefs to the test. That is the primary goal of the 3-Circle model and the process we will teach you in this book. Let us illustrate the key concepts.