Co-creating unique value with customers: C.K. Prahalad introduces a novel approach to competitive advantage

Strategy & Leadership

ISSN: 1087-8572

Article publication date: 1 June 2004

Citation

Abraham, S. (2004), "Co-creating unique value with customers: C.K. Prahalad introduces a novel approach to competitive advantage", Strategy & Leadership, Vol. 32 No. 3. https://doi.org/10.1108/sl.2004.26132cac.001

Publisher

:

Emerald Group Publishing Limited

Copyright © 2004, Emerald Group Publishing Limited


Co-creating unique value with customers: C.K. Prahalad introduces a novel approach to competitive advantage

Stan Abraham is a Strategy & Leadership contributing editor. He is co-founder and currently President of the ASP, and a Professor of Management at Cal Poly Pomona, CA, USA (scabraham@csupomona.edu).

This report on the Association for Strategic Planning's Third Annual Conference, "Strategy in Action: Driving Results through Strategic Thought and Process" was prepared by Stan Abraham. The program, a one-day event held in Los Angeles, featured several keynote speakers and consultant/CEO case studies of companies and nonprofit organizations implementing strategy.

Morning keynote speaker: Dr C.K. Prahalad, Harvey C. Fruehauf Professor of Business Administration at the University of Michigan Business School

Dr Prahalad challenged strategists and executives alike to consider a completely new paradigm for value creation. Sharing concepts and principles from his new book, The Future of Competition, co-authored with Dr Venkat Ramaswamy, Dr Prahalad presented a compelling case that future-thinking corporations should shift their strategic focus from managing resources and capabilities to managing the customer experience as the primary source of value creation. It's a radical idea – continuously learning from and with customers to co-create unique value. Many companies have begun to practice versions of this strategy, but word of it's potential to revolutionize the way firms do business has only recently begun to spread.

Historical mindsets for strategy

Putting on his professorial hat, Dr Prahalad first put his radical new paradigm in its historical context. Beginning in the 1960s, he recalled, the prevailing wisdom has been to choose a strategy that both fit with environmental changes and the firm's resources ("strategy as fit"), where the firm's aspirations were aligned with (and equal to) its resources. This meant that a firm couldn't pursue any strategy that required more financial resources than it had or could wisely borrow. Firms saw strategy as a matter of resource-allocation, where resources were considered to be purely physical and financial.

During the 1970s it became clear to some thinkers, including Dr Prahalad, that the firms producing the most dramatic growth in value were using a strategy of "strategic stretch". For example, firms such as Toyota, Canon, CNN, and Oracle were delivering superior value and displacing their larger, more established competitors by starting with a lean set of resources and then figuring out how to optimize the strategic impact of carefully defined capabilities or "core competencies". Stretching aspirations is very different from developing resources. Our notion of resources evolved from cash and physical assets to intellectual resources, and later included the notion of competence. Strategy, by definition, became stretch, not "fit" (this was the "aha" notion in Dr Prahalad's and Gary Hamel's book Competing for the Future).

"Stretch", by definition, means creating a misfit between opportunities and resources. Companies derived competitive advantage from resource leveraging instead of resource allocation. Diversified companies were no longer portfolios of companies and products, but portfolios of core competences. Under this framework, the challenge for managers is to develop a core competence, using intellectual resources, and then to leverage that core competence to create value.

Traditional industry definitions no longer valid

One way of leveraging resources is to alter the playing field. Planners have become used to doing an industry analysis using Porter's 5-forces model and other tools, but traditional industry boundaries are blurring and not valid anymore. What is a PDA – a computer, camera, or communications device? What is a car – a status symbol or a node in a global network? What is anti-aging cream – a pharmaceutical or cosmetic product? But don't just ask, "So how do we know what business we're in?". The right questions are, "What opportunities do we have and which are going to realize? According to Dr Prahalad, the convergence of industries, technologies, and active consumers has changed everything. Some examples:

  • Downloading music via Napster – is this good or bad news for Sony? Consumers are saying, "We love the stuff, but we don't want it prepackaged. We want to choose what we want, when we want it. We're willing to pay, but not $15 per song, perhaps 50 cents". What does the industry do? It sues 12-year-old kids, its customers of the future, as if they were "thieves". Companies in the industry have no idea how to deliver downloaded music in a profitable way and no idea how to do micro-billing. Napster has redefined the notion of choice and consumer power.

  • Lego blocks become a cult – why do kids pay Lego? Because of the experiences! How many people play Lego MindStorm? Fanatical fans have established a community with a unique culture. So who is in charge of product strategy in this case? The customers! Success stems from a potent combination of product strategy and consumer communities.

  • FedEx allows access – their customers check their own package status. FedEx got the customers to take the initiative; its call-center costs dropped dramatically, and customer satisfaction went way up. It succeeded because it made its system transparent and gave customers easy access. In effect, it became its customers' transportation partner.

  • The emergence of a "wellness" industry – who is defining and designing this industry's boundaries – insurance companies, pharmaceutical companies, doctors, consumer advocates, or consumers? Today, all of them decide the boundaries for this industry.

Because large numbers of consumers are decision participants in each of these examples, strategists can no longer do industry analysis in the traditional way. The firm-centric approach is yesterday's practice.

Co-creating experiences with consumers

People's access to information and their ability to dialog across consumer communities have changed the role of the consumer in today's businesses system, notes Dr Prahalad. He posits that the future of competition lies in a new approach to value creation based on an individual-centered co-creation of value between consumers and companies. To be successful in co-creating value, firms must focus on a new set of "building blocks", namely in-depth dialog with customers, transparency to facilitate this potentially intrusive interaction, new kinds of access to information, and the freedom to exchange information (to assess and share risks). For example, consider being a patient with a cardiac pacemaker. No doubt this life-extending product has value for you, but would it not have greater value if it could be corrected periodically or monitored all the time by your doctor, or in an emergency could allow your history to be shared with a local hospital enabling a conference call to take place with your doctor so you could get the best care when you needed it? The medical equipment company Medtronic already does this today. Medtronic creates value to the patient with the pacemaker and the experience.

Consider experiencing the advanced automotive communications system OnStar, a product/service of General Motors. For a fee it can help make reservations, find a place to eat, get weather reports, get messages to your family, and supply a host of other services. This is beginning to change our very concept of a car. OnStar enables GM to sell a differentiated "experience" rather than just an automobile loaded with features.

About 600,000 people tested the beta version of Windows NT. That translates to $600 million of R&D done by consumers – free. Is the growing ability to tap into the collective knowledge base of consumers good news for resource-strapped companies? Clearly the answer is "yes!". According to Dr Prahalad, consumers are becoming a source of competence. Companies can gain unique sources of advantage by figuring out novel ways of doing this.

While we are all too familiar with product innovation, no one is looking at experience innovation. This involves becoming a system integrator, not a producer. For any product, think of an enhancement that includes consumers – the opportunity is huge. So value is created not only by what you do, but also by getting the consumer to interact with you in ways that add value, in other words, by co-creation. According to Dr Prahalad, the next round of corporate innovation is not to make supply chains more efficient, but to create an experience network.

Innovation in the future will focus on creating valuable experiences, enabling customers to make better choices. Experience will become the basis of value, co-created with the consumer. This assumption about "customization" of the value-enhancing process now underlies everything. The market now becomes a forum for dialoguing about experiences, even for one person. But you can't do it without an experience network and intelligent products (with imbedded sensors, software). We have underestimated the value of consumer communities (of course, they can have a negative impact on the value of the offering too, as in the case of movies, where one bad review can drive away thousands of potential viewers).

Exhibit 1 summarizes the key elements of Dr Prahalad's remarks. Stage 1 applies to the 1960s, Stage 2 to the 1970s, Stage 3 to today, and Stage 4 to the near future. Most companies are somewhere between stages 1 and 3. Dr Prahalad sees Stage 4 as inevitable, where industries will be democratized and consumers will look for customized experiences to make purchase decisions. He warns that most companies are not yet developing the competencies that will rapidly become the basis for competition in Stage 4.

Next – not best – practices

Dr Prahalad reminded his audience that strategy is about continuously searching for new sources of unique advantage. In other words, don't merely play to win the game by the same rules that other firms do. If your competitors are reducing costs and you reduce costs faster, that's not strategic. Strategy requires a focus on growing revenues – that is, discovering new opportunities. But many firms have been constrained in their thinking by perceiving value as internal efficiency and believing that only firms create value. The prevailing assumption has been that consumers don't create value, but buy it in exchange for cash. Consumers had to buy what producers put on the market. While this has worked for many years, it may no longer work in the future.

Dr Prahalad criticized companies that constantly benchmark "best practices", because they are playing catch-up and thus will never become a global leader. Leadership is all about creating next practices, where you become the benchmarked company, not the other way around. The only way to get there, he said, is to fire up our imaginations! We are not opportunity-constrained at all, but rather imagination-constrained. Strategy is about "folding the future in", not extrapolating the past.

Lunch keynote speakers: Shari Ballard, Senior VP Human Resources, Service Delivery, Best Buy, and Dr Elizabeth Gibson[1], Management Psychologist/Consultant, KnoWorks, Division of RHR International

Six years ago, Best Buy was in the midst of a national expansion, but suffered from a host of problems. The company made profits of only $1 million on sales of $5 billion, operations were chaotic and sloppy, and anarchy reigned. Best Buy's stock price plummeted, and the company wasn't getting appropriate benefits from scale or differentiation. This is the story of a massive change process – the story of how Best Buy went from failing to record-breaking profits and a 1,000 percent rise in its stock price in only three years.

Before embarking on its latest successful change initiative, Best Buy learned how not to do it. In its first attempt in 1996, the company looked at best practices in the industry and, working with outside consultants, developed a set of standard operating procedures. These were put in a fat binder and mailed out to all employees. Everyone read it, measured themselves on scorecards, and more less followed the procedures. But this self-managed attempt at discipline didn't translate into financial success. The problem was that the elements of the culture that had made Best Buy successful in the first place (entrepreneurial and laissez-faire) now continually clashed with what the company had to become – more consistent, uniform, methodical, systematic, and accountable. The "adolescent" had to become an adult.

The pressure for change caused Best Buy severe internal stress – but the company really had no other choice. One manager said that he'd been with the company eight years and this was the most difficult couple of months of his career! Best Buy people were masters at execution and prided themselves on being able to change on a dime. But people's old behaviors had to become more disciplined and consistent across the board. And how do you do that without stifling their entrepreneurial spirit? So the challenge was to change people's ingrained work habits, a really tough assignment. One that required an outside consulting team.

The change process the consulting firm introduced focused on developing a clear understanding of how people think and feel about change, referred to as the "head-heart-hands" framework:

  • Head – "Why should I change?" Leaders need to help people open up their thinking and look at things in new ways. But we are all set and look at the world through our own filters.

  • Heart – "What's in it for me?" Emotion is where all the energy is; people's drive for change and their resistance to it.

  • Hands – "What do I do differently?" There are ways to get people to break old habits and adopt new ones.

The consultants developed a "behavioral scorecard" that measured the progress people were making on each of these dimensions, and that gave people feedback on how they were doing. A key success factor was that Best Buy's managers got involved in the change process themselves at every level. Four lessons stood out about the process:

  1. 1.

    When referring to change management, people ask, "Top-down or bottom-up?" It's not either/or, but both. People need to love "the story" – engage people at all levels, make it exciting enough so that they want to get behind it, something that grabs the heart and senses so that people want to be a part of it.

  2. 2.

    What it takes to implement change (or strategy) is to break old habits and learn new ones. There are no short cuts, but there are techniques to do it. Company leaders actually have to change the most.

  3. 3.

    Changing really is about learning. To learn something new requires practice, and while practicing you get feedback – honest and timely feedback. That's where the change scorecard came in.

  4. 4.

    The pivotal moment occurred when key leaders in the company who were responsible for leading the change realized Best Buy's leadership, from the top to the bottom, was still behaving the way they always had. So the leadership behaviors had to change. To their credit, they listened, and let themselves be coached, and let others see the process (became superb role models).

Afternoon keynote speaker: Rob Kautz, President and CEO of Wolfgang Puck Worldwide

Wolfgang Puck Worldwide (WPW) had already been in existence for 15 years when Rob Kautz became its President and CEO in 2000. In 1998, WPW lost $20 million and, while it has since been turned around, it is still constrained by availability of capital. WPW has business units in several related segments of the dining and food industries:

  • restaurants in both fine dining and casual dining segments of the restaurant industry;

  • packaged foods sold in supermarkets; and

  • consumer products (e.g. cookbooks and cooking equipment on Home Shopping Network and Sam's Clubs).

WPW's brand reflected Wolfgang Puck, the person and the chef. He is the brand. Research showed that consumers perceived Wolfgang as honest and believable, and having an essence of fairness (he prefers growth at a fair price rather than jacking up the price, and believes in giving real value to consumers). The public's (middle-income people, not just those who went to his up-scale restaurants) awareness of him jumped 40 percentage points since 1998 thanks mainly to his TV appearances. Apparently people found his products and restaurants more exciting because of their association with Wolfgang; as a result, his "brand" was stronger than Martha Stewart's!

So, given such a strong brand, how does one grow? Rob Kautz, President and CEO of Wolfgang Puck Worldwide discovered a niche between fine dining and fast food that was unserved. No self-serve (cafeteria style) restaurant existed that received high ratings for its food. So the idea for what came to be known as Wolfgang Puck Express® restaurants was born. The food would be so good it compared favorably to full-service dinner houses. Yet to pull it off required a different business model and strict adherence to detail in the implementation. Wolfgang Puck Express's strategy was to redefine the consumer's experience of a quick-service model and, by so doing, create a new genre of restaurant that serves very good food in a fast environment.

The strategy had many components:

  • Maintain quality at all times and use the best ingredients. A solution: purchasing on a national scale. Spend more on cooking for the Express vs. the full-service restaurant (cost of food is $2.40 vs. $3.60 respectively). Preparation is critical to assure that the food will have fresh taste and flavor. The solution: pre-prepare 80 percent and do the last 5 min. of cooking in the restaurant.

  • Become much more efficient. The solutions: reduce menu complexity by only including items with about ten ingredients each vs. items that have over 80 ingredients. Serve lunch and dinner in order to amortize the rent. Because the restaurant is self-serve the customer pays no tips, which substantially increases consumer value.

  • No marketing dollars were used to build brand awareness – the restaurants started with 77 percent brand awareness nationwide.

  • Create a formula that can be duplicated (for franchising). In the Wolfgang Puck Express's system every item must be prepared in less than five minutes, indoor space is limited to 33 square feet per seat, cost to open must be less than $300/square feet, must provide eat-in and take-out, signage and décor must be standardized (the "motto" of "live, love, eat" in little circles and Wolfgang's signature repeated everywhere, and signage fonts, styles, colors must be followed precisely). TV monitors shows continual loops of Wolfgang cooking and his personal involvement and love of good food.

Takeaways from the breakout sessions

The sessions yielded a number of lessons for clarifying the organization's direction, organizing and motivating implementation, and managing change under the guidance of an expert consultant:

  • Focus on people – find which managers and executives are good at what things and then structure teams accordingly ("recognize individual genius and team wisdom"); the result will be a surge in performance. Use top-down-strategy approach, "can't create what you cannot conceive", and bottom-up surfacing of problems and problem-solving. Also, use coaching as a key part of the corporate culture[2].

  • To get agreement on strategy, focus on people's aspirations. Start from where people can agree and work backwards to make it happen. The experience of creating the plan and implementing it is what's valuable and what builds culture[3].

  • Link programs and operational activities to strategy (and the budget), and make sure everyone understands the connections (that's when the strategy becomes real for many people). Make people accountable and encourage collaboration, rather than competition, in the company[4].

  • Where speed is important (time to make strategic decisions and find the best way to implement them), use on-line tools to speed the process, involve large numbers of people in the process, and get everyone focused on implementation once decisions have been made. Most importantly, review the process immediately afterwards (What did we set out to do? What actually happened? Why did it happen? What did we learn?)[5].

Notes

  1. 1.

    Coauthor, with Andy Billings, of Big Change at Best Buy: Working through Hypergrowth to Sustained Excellence, Davies-Black, April 2003.

  2. 2.

    From the session, "Planning and implementing a high-tech spin-off", Ashwin Rangan, Senior VP and CIO, Conexant Systems (which spun off from Rockwell International), and Paul Walker, formerly Senior VP and Officer of Conexant Systems and now President of Turiya Leadership Consulting.

  3. 3.

    From the session, "Creating alignment among powerful but disparate shareholders", Janice Spire, Executive Director, The Alliance for Children's Rights, and Dr Ivan Rosenberg, Frontier Associates.

  4. 4.

    From the session, "Balancing foresight and flexibility in uncertain times", Lydia Kennard, Executive Director, and Paul Green, Deputy Director and COO, Los Angeles World Airports, and Gayla Kraetsch-Hartsough, KH Consulting Group.

  5. 5.

    From the session, "Repositioning for growth and profitability in mature industries", Ed Jones, Director of Planning, Weyerhaeuser Building Materials, and Leland Russell, GEO Group Strategic Services, Inc.