Natural history shows occasional periods of mass extinction, when as many as 95% of existing species disappeared. Most spectacular was the asteroid crash 65 million years ago that killed off the dinosaurs, huge lumbering beasts whose only extant descendants are the more mobile birds.
Something like that is happening with digital transformation. Companies have long succumbed to more creative and nimble competitors, but digital transformation doesn't just destroy a company, it can destroy the whole business model that underlies it.
In this article, I examine the scope of digital transformation, what kinds of enterprises are most threatened or helped by it, how to recognize threats and opportunities, and how to become a survivor -- or a winner.
A ROLLING TRANSFORMATION
Early IT was invisible to customers, so implementing it badly didn't much matter to them. In the 1980s, online access to data enabled some companies to offer much better service to customers who had questions or problems or wanted to place an order. Customers didn't physically interact with IT, but it made the enterprise easier to do business with. Surely this was an improvement, but it was hardly "transformation." In the 1990s, the advent of the Internet plus Web browsers and search engines let enterprises make themselves known to customers in a far more effective way than through print ads, directories, and direct mail -- again an improvement, but well short of transformation.
I would argue that digital transformation really began when products and services, and/or the channels through which we procured them, changed in fundamental ways. This happened in the 2000s (and earlier for pioneers like Amazon and eBay). Suddenly, customers could transact business directly with the enterprise's IT, cutting out middlemen. In some areas, customers could obtain the digital equivalent of a product from entirely new sources; for example, recorded music. Most recently, new companies have arisen that provide a form of brokering, matching people with needs to people (small businesses or even individuals) who can meet those needs, as in the cases of Uber and Airbnb.
Vulnerable enterprises that did not roll with these transformations got rolled over by them.
A MAXIM FOR THE TIMES
When a digital innovation that could destroy your current business model becomes economically viable, that business model will be destroyed.
OUR NEW WORLD
Any business model in use exists because it fulfills a need. Destruction of that business model does not mean the need goes away; rather, it is fulfilled by different means.
Threats and Vulnerabilities
Not every business or business model is threatened. If you make things people want at a reasonable price, you will most likely continue to make them, though the channels to the customer may change, and a niche business can prosper by exploiting these new channels. But nobody should be blind to the threat. Characteristics of vulnerability include:
Being a labor-intensive middleman such as a travel agent. Travel sites that could do almost all an agent could do appeared out of nowhere, and e-tickets eliminated the one area in which Main Street agents had a virtual monopoly -- printing paper tickets. Only those agencies proficient in group tours, cruises, or complex international business travel could survive.
Selling products that could be replaced by near-zero marginal cost digital transmission, such as recorded music and reading material.
Selling services based on predictable quality, relying on customers' limited knowledge of possible alternatives, such as hotel and restaurant chains.
Selling anything at a price that could be substantially undercut by a competitor using digital technology.
Having a legally sanctioned monopoly that could be broken if a new, easy way for providers and customers to find one another appeared, such as licensed taxis now competing with Uber and Lyft.
New Businesses Created
A host of new businesses have emerged to meet customers' needs and, along the way, have expanded the range of possibilities for customers and suppliers:
A sideline business enabled by a computer company's technology has become the largest purveyor (by volume) of recorded music.
Amazon started as a bookseller, but it soon became clear that its goal was to be tops with a process -- order fulfillment. This new channel threatens the big box retailers who, not that long ago, had decimated Main Street retailers.
Travel sites democratized travel information, making options easy to find and compare. This in turn prompted the emergence of meta-travel sites such as skyscanner.net, which finds not only the flight options, but also the best prices available directly from the airlines as well as the range of travel sites.
Brokering the exchange of goods and services brings together buyers and sellers who would never otherwise find one another. eBay is an obvious example for goods; in services, companies like Uber bring together people who have a need with people who have the means and time to fulfill it.
Old Businesses Energized
Digital transformation has been a boon for many small businesses (e.g., non-chain lodging and restaurants) whose biggest challenge had been becoming known and respected outside of a local area. (See sidebar "Transforming the Lodging Industry.")
Other small businesses such as used books, collectibles, crafts, and artisanal products can leverage digital technology to open up a national or even a global market. Common elements are some combination of exploiting a niche and differentiating one's product or service by adding value. In 1985, Michael Porter of the Harvard Business School1 identified three generic business strategies:
Be a low-cost producer.
Differentiate your offering.
Find a niche.
Of these, low-cost producers are the most threatened by digital transformation. People buy from them because they're cheap, so any enterprise that can supply the commodity for less by exploiting digital technology will profit at their expense.
TRANSFORMING THE LODGING INDUSTRY
Until 1995, hotel chains offered predictable quality and proprietary online reservation systems, for which they were amply compensated. Other facilities such as small hotels, inns, and B&Bs had to rely on word of mouth or recommendations in guidebooks and other media even to become known to potential customers, and such information could quickly go stale as businesses closed or changed hands. Margins were low.
The Internet changed that in two ways:
- Travel sites like Expedia allowed travelers to see the range of options, including prices, and to book rooms through them. This wrought further havoc in the Main Street travel agency business.
- Small, unique inns and B&Bs established a Web presence that could include pictures and testimonials. Most then moved on to providing current info on availability, allowing guests to book rooms online, and accepting payment and customer-submitted feedback. The additional guests these innovations brought in enabled higher margins and justified investments in purpose-built properties, as opposed to just renting spare rooms in a house that's bigger than you need.
Now, Airbnb and the like threaten the margins in this business model by enabling people not in the hospitality business to rent out spare rooms or whole dwelling units occasionally and opportunistically, without even having to formally create a business. Controlled online feedback about both hosts and guests mitigates perceived risks.
We can see something similar in the car rental business, as the long-standing by-the-day model, with limited pickup and drop-off points, loses business to enterprises like Zipcar, which offers far more numerous locations and card-key access to vehicles, obviating the need for people to check customers in and out. Now we're even getting the first inklings of private car sharing, analogous to Airbnb's renting of private rooms.
Power to the People?
The opportunity for customers to post feedback on the Internet, either directly on a vendor's site or through review sites like Yelp and TripAdvisor, provides a valuable mechanism for potential customers to get unvarnished information … until it doesn't. Customers can make a big deal out of trivial problems or extort unjustifiable discounts and refunds with the threat of negative reviews. Vendors can create favorable reviews of themselves out of thin air, while competitors can do the opposite. Even non-customers could get into the extortion racket: "Nice inn you have here. It'd be a shame if something happened to it..." Some sites offer vendors a chance to respond to reviews, but perhaps the best approach is that of Airbnb. Its reviews are limited to actual guests and flow in both directions, allowing crank guests to be identified and shunned by other hosts as well as helping potential guests avoid bad hosts. Unfortunately, this approach is not practical outside a "closed" set of vendors and customers. Customers need to develop instincts for sniffing out reviews that don't seem real. Caveat emptor remains sound advice.
Not So Fast!
That said, digital transformations will not become universal in every case and indeed may fall well short of that theoretical possibility. For example:
E-book sales have leveled off. There seems to be something about reading a physical book that a lot of people simply like, even though they may still read some e-books. (They may limit e-books to "guilty pleasure" reading, as opposed to what they'd like people to know they read.)
Although the once-mighty Tower Records has died, purveyors of used vinyl prosper.
Some bookshops have expanded into coffee shops that offer lounge space and host authors on book tours. Others act as agents for Amazon, getting a cut of the price without needing to stock as many books.
Brick-and-mortar retailers with sophisticated products and highly knowledgeable salespeople manage to survive.
IDENTIFYING THE TRANSFORMATION THREAT OR OPPORTUNITY
No enterprise big or small should fail to think about what digital transformation can do for -- or to -- them. Within commonsense economic limits, current technologies should be exploited. Further, it's important to envision potential technological changes a few years out and think through how to prepare for and exploit them. Obviously, that's not easy. Following are a few pointers.
Understand What Your Customer Is Really Buying
(Hint: It may not be what you think you're selling!)
For the first nearly 100 years, record companies saw themselves as selling (and their customers as buying) media -- wax cylinders, vinyl, tapes, and then CDs as the technology evolved. In the literal sense, that was true. But in reality, what customers were buying was the ability to listen to a piece of music when they wanted to (and where they wanted to, once tapes and CDs came on the scene). In the analog world, only physical media could fulfill the customer's desire.
CDs, however, are digital; what is stored on them can be stored on a computer. That didn't matter when data transmission was dial up, but when it became practical to download or stream the music, who needed the media anymore? (The same is true for video, once DVDs replaced analog tapes.) Clearly a major transformation was necessary if the recording industry didn't want an upstart from left field, like Apple, eating its lunch. That didn't happen; the recording industry chose to hire lawyers rather than technologists.
Understand What Customers Don't Like or Find Frustrating About Your Product or Service
(Hint: You may not find this out by asking them, since they may just accept things as inevitable -- until an upstart shows them otherwise.)
Since the days of the horse and carriage, taxis in large cities could be found at dedicated taxi stands or cruising the streets. If you weren't near a stand or on a busy street, good luck. Telephones and two-way radios enabled taxis to be ordered to a specific address, but it wasn't possible to know how long it would take for them to show up. Put smartphones and GPS in the picture, like the Hailo app in London, and the customer can see just where the cab he requested is and how long it will take to get to him.
In most large cities, the taxi business is highly regulated. Only medallion taxis can occupy designated stands or accept street hails. There is usually a fixed number of medallions, well short of peak demand. (Cartel, anybody?) But if a customer with a smartphone can have a car pick her up quickly and predictably from wherever she happens to be, driven by someone with the technology to find her and get to her destination by a nearly optimal route, why take a chance trying to find an empty cab in the street? Thus Uber, Lyft, and others entered the taxi business, or more accurately, the business of meeting people's need for fast point-to-point transportation. The famous London black taxis got in front of this development with Hailo, but their cartel-enabled high prices have still created room for upstarts. The value of the drivers' legendary knowledge of London's thousands of streets has been attenuated by GPS, leaving just the black taxis' ability to use bus lanes -- no small matter in rush hour -- and their high carrying capacity as differentiators.
Identify Potential Competitors
(Hint: They're not limited to your current ones.)
Could anyone in 1975 have predicted that a computer company started by two kids in a garage would by 2010 be the world's largest vendor of recorded music? Not a chance. By 1985? Unlikely. By 1995? The writing was on the wall for music producers and retailers.
Other competitors may not even exist -- yet. A useful thought exercise is to ponder how you could destroy your own business with technology, even if it's technology that doesn't quite exist yet or is still quite expensive.
GETTING TO SPECIFIC ACTIONS
Envision Digital Possibilities
This is a tall order, not only technically but culturally, for an enterprise that has been around for a while and has a still-working business model. Business history to a very large extent consists of tales of once-great companies that needed to transform in some way but did not, due to lack of vision, lack of resources, or just a change-proof culture.
The urgency to identify feasible digital transformations increases if you are enjoying large margins and your price could be drastically yet profitably undercut with digital technology, or if you enjoy a monopoly that a digitally transformed competitor could break. Complacency is the enemy; if you wait for the threat to be manifest, it may be too late, and lawyering up is no guarantee of anything but legal bills.
There is no "by the numbers" way to develop visions of future possibilities. It takes a combination of imagination, critical thinking, and technological awareness leavened with -- but not overwhelmed by -- practicality in the early stages of thinking. It very much requires a from-the-outside-in perspective on the enterprise, when the daily grind is mostly about the from-the-inside-out. Outside people can help by providing technological expertise and process facilitation. This is where a "laboratory" might come into play, though not necessarily. Labs have pluses but also very serious minuses that I will cover below.
Identify the Core Competencies that Matter in the Future and the Role of IT in Leveraging Them
(Hint: They may have changed since you last looked.)
Not to keep picking on the poor recorded music business, but it does offer a rich lode of examples. Twenty years ago, the relevant core competencies might have included identifying and developing talent, providing top-of-the-line recording studios, promoting product, and managing physical distribution channels. The last item would no longer be on the list, and the second is no longer so prohibitively expensive that talent can't produce music independently. The first and third remain at the core, but how to exercise them has changed radically with social networks.
Assess Your Cultural Resources
(Caution: Diplomacy needed!)
The ability to effect digital transformation requires more than understanding technology, identifying plausible opportunities, and having the technical and financial resources to implement them. Those are necessary, but they are insufficient in the absence of cultural resources like entrepreneurial risk-taking, a collaborative ethic, and independent critical thinking. It's a lot easier to say you are innovative than to be innovative. Some clues that the reality may not match the verbiage are:
Carrots for success are much smaller than the sticks for failure.
Many people, particularly people in staff functions, can say no to an idea and make it stick.
Naysayers' misplaced analogies to past failures go unchallenged.
There's a tendency toward groupthink, either positive or negative.
There is widespread concern about cannibalizing existing products and services. (If some innovation is going to destroy your business model anyway, wouldn't you rather it be your innovation?)
Organizational silos and rivalries litter the landscape.
Assess Your IT Resources
(Hint: You may not have what you need.)
It's hardly a secret that the IT capabilities that got organizations through IT's early decades, no matter how good, were not attuned to the challenges that emerged in the age of the Internet. Drivers, approaches, criteria, and priorities changed as rapidly as the technology. It's not just technicians that need to reorient, it's their managers, particularly those who earned their spurs in the "traditional" IT world. Table 1 summarizes the differences between traditional IT and digital transformation.
While speed has always been desired in IT (albeit more often promised than delivered), it is absolutely of the essence in transformation. Outside resources are likely needed to make the leaps, because the people who can do this quickly and well are apt to be too expensive to keep on staff, and if they don't seem too expensive, they're probably not the right people.
Time is most important in the first steps in transformation. A subpar but not hopelessly botched initial rollout can be recovered from, but new and supposedly improved versions need to be visibly improved from Day One -- no backsliding.
Is a "Lab" the Answer?
The idea that a group of really smart, visionary people could be assembled to generate the killer ideas that not only keep you in business but enable great leaps forward is seductive. Two well-known examples:
Bell Labs was a spectacular success, generating ideas that both benefited its parent company and garnered Nobel Prizes for the quality of the scientific work done. It was also, for better or worse, a product uniquely of its time. Before 1984, AT&T (Ma Bell) was a highly regulated and well-run monopoly that generated the kind of margins that could support an organization doing work that would have little or no impact in the next five years, let alone the next quarter, and it became a national treasure.
Xerox PARC was also very successful in developing brilliant ideas we all use today, such as the graphical user interface. But PARC, unlike Bell Labs, was far from the parent company's operations and line management. The upshot was that huge profits have been realized from its inventions -- just not by Xerox. Now it's a wholly owned subsidiary of Xerox that does contract work for a variety of companies.
The problem with labs charged with innovation is that they are rarely a good cultural fit. They tend to be created with great fanfare. New people with fancy degrees and high salaries come in with a vague charter and no street cred with people in the existing culture. If they're insufficiently conversant with the business, they get tripped up by details and lose further credibility. A great deal of money gets spent before even a glimmer of an idea appears. Too often, they're used as a substitute for the hard thinking that's the job of line managers who want to stay in business.
Labs are especially problematic when they're grafted onto an old-line humdrum business that has not heretofore needed to hire the best and the brightest and does not yet feel seriously threatened. If an enterprise does have a corps of really sharp people, they will feel insulted. Either way, the culture's white blood cells will take care of the alien intruders.
In short, having a lab for innovation is not the same as being an innovative enterprise.
Lest the above cautions seem excessively dismissive, I should note that labs can add value if the circumstances are right. One current example is WalmartLabs. Walmart acquired (and renamed) Kosmix, an existing Silicon Valley firm, in 2011. This meant it did not have to form a team from scratch that might or might not gel. Its aggressive recruiting suggests continuing serious financial commitment. Also, while Walmart's core business of big box stores selling stuff cheap is hardly an innovation, the way it uses technology to optimize its supply chain advanced the state of the art, so innovation is in the company's DNA. All of this bodes well, but will it pay off? Time will tell.
If Not a Lab, What?
Product and service innovation must be the responsibility of line managers. For those organizations that still have them, strategic planning staffs can help. Obviously, the CIO should be a key resource. What about a Chief Digital Officer? Aside from the ludicrous title, which spawns jokes about fingers, there is the matter of how the CDO and CIO would play together. With a less pretentious title, there is a valid role for someone -- probably but not necessarily in the CIO's organization -- to help line managers think more innovatively and to shepherd outside resources brought in to speed the process I've been describing.
At the risk of sounding self-serving (I'm a management consultant myself), I do believe that outsiders with some grey hair and scar tissue can bring out the wisdom and creativity of an organization, primarily by asking sharp questions and challenging conventional wisdom with what may sound like stupid questions until people try to answer them cogently. Deep knowledge of the existing business model is not necessary, but the intuition to see parallels and analogies outside the industry is critical. Also important is a set of examples and cases that illustrate and explain success and failure. More technically oriented outsiders can provide state-of-the art examples; more seasoned consultants can bring the gee-whiz down to relevance for the situation at hand.
Risks and Challenges
Sometimes the biggest risk lies in not taking risks; having a once-successful business model undercut or destroyed is a big penalty for sitting on one's hands. That said, the risks of action need to be acknowledged and addressed. Transformation, digital or otherwise, isn't easy, technically or culturally. Cross-functional teams may not gel. C-level people may get spooked by the costs and demand scope reductions that gut the innovation. Barriers to success can be technical, but the right team can avoid or extricate themselves from most dead ends. Tougher to overcome are the cultural barriers arising from cynicism, complacency, or intramural rivalries. Enterprise Governance, with or without the capital letters, cannot treat transformation as a spectator sport; it needs to hold both line managers and transformation teams accountable. It needs to neutralize naysayers who criticize without offering anything better.
Habits of an Innovator
Since this topic is closely related to disruptive technologies, I have adapted a section from my 2011 Cutter IT Journal article on that subject:
Pay attention to what other organizations, not just competitors but firms in other industries and even governments and not-for-profits, are doing with IT.
Personally use a wide variety of technologies, platforms, and apps, even those that seem irrelevant to your enterprise. Remember, Facebook and Twitter may have appeared frivolous at first, but they are now well-established platforms for communication. Try services like Airbnb, Uber, and Lyft. Keep up with what teens are doing on their phones and pads, though perhaps not quite everything they get up to!
Think, but don't overanalyze, how your enterprise would use social networking and smartphone apps before implementing a presence. Customers and nontechnical employees can generate great ideas you may not think of.
Do think through how you could incorporate a new idea into the IT base if it starts to look as if it has legs, but don't spend a lot to implement it until those legs actually appear.
The key is to stay aware and flexible, keeping options open rather than deciding things before you need to. The late Yogi Berra once said, "When you come to a fork in the road, take it." Maybe he was onto something more than people give him credit for.
1 Porter, Michael E. Competitive Strategy. Free Press, 1980.
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