FOUR
Staying the (Misguided) Course
Threat? What Threat?
 
 
 
 
 
 
Aviation investigators have a euphemism: “controlled flight into terrain.” What they mean is that a pilot took a perfectly functioning plane, in good conditions, and flew it into the ground, usually the side of a hill or a mountain.
Executives sometimes do this, too. They, like the pilots, have warning signs that they’re about to crash, but they do it anyway.
Obviously, no one intends to crash, whether you’re talking about a plane or a business. But executives can kid themselves into thinking that a problem isn’t as severe as it really is or delay any reaction for so long that, before they know it, they’re face-to-face with that mountain.
Our research found numerous examples. We found retailers that could see Wal-Mart coming after them with its low, low prices but failed to react. We saw manufacturers fail to grasp how much outsourcing to China and other developing countries would restructure their industries. We saw loads of technology companies that didn’t see that they were about to become obsolete.
In most cases, executives told themselves that they were making needed improvements to their core businesses, that they were staying the course. In fact, they were just tinkering as a way of staying in denial about a threat that put that very business in doubt. Executives were rearranging the proverbial deck chairs on the Titanic.
It isn’t that the coming problems were hard to discern. They were evident to outsiders. But insiders couldn’t quite fathom that their very existence could be threatened, usually after a long history of success. When problems became apparent to those in the trenches, information about them got filtered out before reaching those who were in a position to address them. Even when the problems crystallized for those in the executive suite, managers sometimes held on to the old business as long as possible, temporizing to preserve profit margins in the short term rather than make some drastic move that could address the long term. And even if everyone up and down the line saw the problem, it was still hard to see the solution. That’s because it’s hard to explore options that attack core assumptions and values, such as those about what customers are actually buying, where profit comes from, the business model, and the very notion of being an independent, growth-oriented company. The solution in the cases we unearthed often would have been to sell the company or go out of business—if you’re a paging company, and cell phones are about to supersede you, there isn’t much you can do about it—but winding down a business is the last thing an executive would consider doing. Selling at a distressed price isn’t far behind as an unpleasant option.
Our research didn’t find as many examples for this chapter as for others, but we still believe that ignoring a threat is a very common problem that needs to be addressed. We believe the relative paucity of examples stems partly from the nature of corporate reporting. Companies report what they did, not what they didn’t do. So finding errors of omission is inherently harder than finding errors of commission. In addition, even when companies seemed to ignore threats for too long, we sometimes used those examples elsewhere. Under pressure, companies almost invariably took some action, and they sometimes made mistakes that seemed to fit better in other chapters.
A study published in 2004 found that just about every company is in danger of ignoring imminent threats. In the study, only 17 percent of managers felt that their company would react quickly enough and aggressively enough to a structural change in their industry that constituted a major threat. Some 20 percent said their companies were the embodiment of “paralysis by analysis.” Roughly 16 percent said their companies would decide that the crisis would disappear; therefore, the companies wouldn’t even discuss the possibility of trouble. Almost 39 percent said their companies would take action, but said the action would be too slow and too late. Because of this lack of forceful action, 92 percent of those surveyed said their company had recently been surprised by at least one event that could affect their organization’s long-term positioning.
Another study, published in 2007, found that 60 percent of executives felt their primary source of competitive advantage was eroding. Some 65 percent said they needed to fundamentally restructure their business model. Roughly 72 percent said their main competitor five years down the road would likely be different from the main competitor at the time of the survey.
Research published in 2003 found that major slumps in earnings are becoming more common. The research, by Gary Hamel and Liisa Valikangas, found that in each year from 1973 through 1977, an average of thirty-seven Fortune 500 companies were entering or in the midst of a five-year, 50 percent decline in net income. From 1993 to 1997, the average number of companies suffering through such an earnings contraction had more than doubled, to eighty-four, even though the United States was smack in the middle of the longest economic boom in modern times.1
The lessons that come out of the cases in this chapter, for how to face up to an imminent threat, should be useful to many, whether at the top levels of a business or in middle management, because, it seems, we’re all always in danger of ignoring approaching peril.
The story of Eastman Kodak shows just how devastating it can be when a company reacts too slowly—and just how hard it is to react, even when the threat is blatantly obvious. Kodak failed to avoid the digital-photography revolution even though Kodak had made a detailed (and accurate) analysis of the threat as far back as 1981, according to material provided by our friend Vince Barabba, who was an executive at Kodak at the time (and who provides considerable additional detail in his book Surviving Transformation). Kodak kept its plane on autopilot until it flew into the side of the mountain.

Kodak: Focusing on the Negatives

Kodak has been an American institution for more than a century. Its bright yellow boxes have delivered vivid memories of the most important moments in people’s lives. The time when a loved one is being unbearably cute even goes by the name “a Kodak moment.” As a company, Kodak thrived for more than a century. It was part of the “Nifty Fifty,” a group of stocks that were known as sure bets and that soared in the 1960s and 1970s, and the company prospered into the 1990s. Kodak, together with Xerox Corporation, pretty much built an entire American city, Rochester, New York. The company was such an icon that Neil Armstrong took a roll of Kodak’s Ektachrome film to the moon with him in 1969.
Kodak was started by an enterprising young man named George Eastman. He was a bank clerk in Rochester in the late 1870s and was planning a vacation to Santo Domingo. A coworker suggested he take photos. Eastman bought a camera, film, and the chemicals and equipment needed to develop the images. But the system was too bulky. Eastman promptly canceled his travel plans and spent his vacation trying to find a way to make photography more convenient.
Although we tend to think of photography as some semimagical, modern phenomenon—what could be more hip than snapping a friend’s picture with a cell phone and e-mailing it around?—the roots of photography actually reach into antiquity. A Chinese philosopher named Mozi mentioned in the fifth century B.C. that it was possible to use a pinhole to let light project an image onto a small, flat surface. Aristotle showed that he also grasped the idea in the fourth century B.C. In the fifteenth century A.D., Leonardo da Vinci became the first to describe a pinhole device, which he called a camera obscura, Latin for “dark chamber”; he was careful to note on his drawing that the idea was “not invented by us.” People sometimes used the devices so they could draw an image accurately. It took centuries to figure out the processes that allowed for images to be captured chemically, but as far back as the Civil War those processes were already two decades old. Photography was in its second generation and was in wide use.
The system Eastman bought used wet chemicals on a glass plate to capture an image, but Eastman eventually found a description of a simpler, dry process used in England. He spent his evenings after work trying to replicate the process in his mother’s kitchen. After three years, Eastman was satisfied that he had a dry-plate process that worked. He obtained a patent and founded the Eastman Dry Plate Company in 1881. Cautiously, he initially kept his day job at the bank, but sales were strong enough that he quit later that year to work full-time on his company.
Eastman Dry Plate innovated in various processes that let it produce film plates more efficiently, but Eastman saw that, as far out there as photography was technologically, plates were becoming a commodity business. (A saying in the technology world is that “it can take hundreds of PhDs to develop a product that eventually gets priced like bushels of corn.”) Eastman also saw that the dry-plate process was still awfully cumbersome. Cameras were huge. The glass plates were heavy—and eminently breakable. It took considerable resources, time, and expense to transfer images from the film to paper. Photography was limited to professionals and serious amateurs such as Eastman.
So Eastman developed paper film that could be sold in a roll, greatly cutting the weight and expense of film. The rolls of paper film couldn’t match the quality of the glass plates, so serious photographers shunned paper film. Rather than give up, though, he saw the potential for the paper film in an untapped mass market: rank amateurs.
In 1888, Eastman introduced the Kodak camera. (Eastman, who thought K was a strong letter, came up with the name with his mother at her kitchen table using an anagram set, a popular game of the time.) The camera sold for $25 and came with one hundred frames of film. A buyer would take the pictures, then send the whole camera to Eastman Dry Plate, which would develop the film and send the camera back, loaded with a fresh roll of film. Eastman Dry Plate charged $10 for developing. The system was an immediate hit. Demand for the cameras and its film was so strong that the company struggled for a decade to keep up.
Some competitors sniffed at the inferior quality of the paper film, which soon morphed into the sort of celluloid film that is still available today. Rather than switch to rolls, the companies tried to improve on glass-plate technology. One, for instance, tried to simulate the convenience of rolls of film by inventing a device that carried twenty plates. After a plate was exposed, a mechanical arm would remove it and replace it with a fresh plate. The mechanical device was huge and awkward and never could have competed with paper film. Companies that focused on improving glass plates continued to serve the professional market for fifteen to twenty years, and sales were steady, but the companies missed out on all of the phenomenal growth in the photography market and eventually faded away.
Despite the original Kodak’s success, Eastman Dry Plate quickly replaced it. The company introduced the “No. 1” camera, which incorporated a simplified shutter system and other redesigns that reduced manufacturing costs. In 1898, Eastman introduced the first of his series of “Brownie” cameras. These sold for just $1 each. Rolls of film were 15¢.
Eastman cemented his lead. By 1902, Eastman’s company, renamed Eastman Kodak to acknowledge the role of the Kodak camera, sold 80 percent to 90 percent of the world’s celluloid film.
A threat emerged in the early 1900s, when German inventors began producing color film. The quality didn’t come close to matching that of existing black-and-white film, but Eastman didn’t repeat the mistake many glass-plate makers had committed. He didn’t dismiss the incipient technology. He was convinced that it would eventually render black-and-white film obsolete. He carefully monitored the Germans’ process and invested heavily in research and development at his own labs. He failed repeatedly, but eventually, in the 1920s, he came out with a high-quality color film. Eastman maintained his stranglehold on the film market.
The market for film stayed stable for decades, though not as many decades as you might think. The march toward digital photography began way back in 1951 in a laboratory set up by Bing Crosby. The lab found a way to capture images digitally on videotape. The research was aimed at the new market for television, but capturing bits is capturing bits. The basic means for taking digital still photographs had been uncovered.
In the 1960s, NASA improved the technology to allow for transmission of pictures from space. It used the growing power of computers to enhance the images. Work on spy satellites furthered the development of digital photography. By 1972, Texas Instruments Incorporated had patented a filmless electronic camera. In 1981, Sony Corporation introduced the first commercial electronic camera, the Mavica. The race was on.
Shortly before the Mavica’s introduction, Kodak’s various partners—photo finishers and film retailers—became worried enough about the long-term viability of film that they asked Kodak what the future held. Kodak, which had already been working on digital technology in its labs, conducted a thorough review by challenging technical and market assumptions and determined that, until 1990:
• “The quality of prints from electronic images will not be generally acceptable to consumers as replacement for prints based on the science of photography,” by which Kodak meant traditional film and prints.
• “The consumer’s desire to handle, display, and distribute prints cannot be replaced by electronic display devices.”
• “The incompatibility of electronic-imaging systems to the full range of VCR and video disc devices in the market will be a barrier to widespread amateur acceptance of those systems.” In other words, even if consumers didn’t have a strong preference for prints, it was going to be hard to hook the cameras up to electronic displays.
• “In-home, personal electronic print systems will not be competitive in terms of price and quality with commercial print-making services.”
• “Electronic systems (camera and viewing input device for TV) will not be low enough in price to have widespread appeal.”
 
In sum, Kodak decided that traditional film and prints would continue to dominate through the 1980s and that photo finishers, film retailers, and, of course, Kodak itself could expect to continue to occupy their long-held positions until 1990.
Kodak was right—and wrong.
Everything Kodak said about the 1980s was correct. Digital cameras, electronic displays, and printers still didn’t work well enough to pose a threat to Kodak, the photo finishers, and film retailers. The new devices were also too expensive.
But the game didn’t end at the close of the 1980s. In fact, the game was just starting. In the next decade, numerous technologies came together to erode, or even erase, the advantages of traditional film. The quality of digital cameras greatly improved. Prices plunged because the cameras generally followed Moore’s Law, the famous prediction by Intel cofounder Gordon Moore in the 1960s that the cost of a unit of computing power would fall by 50 percent every eighteen to twenty-four months. Cameras began to be equipped with what the industry called removable media—those little cards that hold the pictures—so pictures were easier to print or to move to other devices, such as computers. Printers improved. Their costs dropped, too. The Internet caught the popular imagination, and people began e-mailing each other pictures rather than print them. Companies sprang up that let people post pictures on Web sites, again obviating the need to print them.
Many Kodak senior managers used the 1981 assessment to hold to their beliefs, formed long before the study was conducted, that the company could ride out the storm. While Kodak had identified all the relevant factors affecting how quickly digital technology would be adopted, managers’ interpretation of the assessment allowed them to reinforce their strongly held beliefs rather than to point out what to watch out for.
Kodak’s labs spent the 1980s doing some research on digital technology, but without much enthusiasm. Steven J. Sasson, an engineer who invented the first digital camera at Kodak in the 1970s, told the New York Times that his bosses were dismayed at the prospects. “It was filmless photography,” he said, “so management’s reaction was, ‘that’s cute—but don’t tell anyone about it.’” In 1986, it produced the first working version of the type of sensor that is at the core of today’s digital cameras. But despite having a solid decade following 1981, Kodak did not take advantage of its early warning and did little to ready itself for the onslaught of digital technology because it consistently tried to hold on to the profits from its old technology and underestimated the speed with which the new would take hold. Kodak decided it could use digital technology to enhance film, rather than replace it. Kodak decided it could tinker with its business model but didn’t need to overhaul it or replace it. In the process, Kodak just ensured that it would be neither fish nor fowl.
In fact, Kodak made the very mistake that George Eastman had avoided twice. He gave up a profitable dry-plate business to move quickly to film. He also moved rapidly to color film, even though it was demonstrably inferior to black-and-white for almost twenty years.
Instead of preparing for the digital world, Kodak headed off in a direction that cost it dearly. In 1988, Kodak bought Sterling Drug for $5.1 billion. In one of those classic semantic leaps that we describe in chapter 5 on ill-fated moves into adjacent markets, Kodak had decided it was really a chemicals business, not a photography company. So, Kodak reasoned, it should move into adjacent chemical markets, such as drugs. Well, chemically treated photo paper really isn’t that similar to hormonal agents and cardiovascular drugs. The customers are different. The delivery channels are different. The regulatory environment is different. The approach to research and development is different.
Kodak lost its shirt. It sold Sterling in pieces in 1994 for about half the original purchase price.
With the diversification failing, and with worries about the digital-photography threat growing, Kodak’s board had a chance to take a stand in 1990 when longtime CEO Colby Chandler retired. The choices to replace him came down to Phil Samper and Kay Whitmore. Whitmore represented the traditional film business, where he had moved up the ranks for three decades. Samper had a deep appreciation for digital technology and what it could do for photography. The board chose Whitmore. (Samper demonstrated his grasp of the digital world by heading off to be president of Sun Microsystems Incorporated, then CEO of Cray Research Incorporated.)
Whitmore lasted all of three years, before the board fired him in 1993. This time, the board went for a technologist and, amid much hoopla, hired George M. C. Fisher. Fisher had a spectacular run as CEO of Motorola Incorporated and was being talked about as one of the great executives of all time. Roberto C. Goizueta, a Kodak director who was chairman of Coca-Cola Company, said of Fisher’s hiring: “When we began this search, our No. 1 candidate was God, and we stepped down from that.”2
Fisher promised to carry Kodak into the digital world. But most of Kodak didn’t want to go there. Fisher said in an interview, in the paraphrase of a New York Times reporter, that Kodak “regarded digital photography as the enemy, an evil juggernaut that would kill the chemical-based film and paper business that had fueled Kodak’s sales and profits for decades.”3 Profit margins on the existing business were far greater than in the digital world. Why the hurry to change?
Fisher’s solution was to hold on to the film business as long as possible, while adding a technological veneer to it. For instance, he introduced the Advantix Preview camera, a hybrid of digital and film technology. Users took pictures the way they always had, and the images were captured on film. But, because the camera was at its core digital, a display on the back let users immediately see the picture they’d taken. Users would then decide whether they wanted that image printed and would press buttons that would instruct the photoprocessor on how many images of that photo to print. In other words, a customer was buying a fully digital camera but was also going to pay Kodak for rolls of film. There was no benefit to the consumer. Once you’ve captured an image electronically, there’s no need for the film. Kodak spent more than $500 million developing Advantix, which flopped.
Trying to move Kodak’s traditional retail photoprocessing systems into the digital world, Fisher installed tens of thousands of Image Magic kiosks. Customers could use the kiosks to view images they’d stored online, then enhance them and print them. These kiosks came just as numerous companies introduced inexpensive, high-quality photo printers that people could use at home, which, in fact, is where customers preferred to view their images and fiddle with them. Another flop.
Fisher also tried to insert Kodak as an intermediary in the process of sharing images electronically. He formed partnerships that let customers receive electronic versions of their photos by e-mail and gave them access to kiosks that let them manipulate and reproduce old photographs. Yet customers can, of course, do those sorts of things without Kodak’s blessing. You don’t need Kodak to upload photos to your computer and e-mail them. You don’t need Kodak to remove the red-eye from photos; any software package can do that these days. Fisher also formed a partnership with AOL called “You’ve Got Pictures.” Customers would have their film developed and posted online, where friends and family could view them. Customers would pay AOL $7 for this privilege, on top of the $9 paid for the photoprocessing. But why pay AOL $7 when sites such as Snapfish were allowing pictures to be posted online free? And who needs photoprocessing, anyway?
Sure, in the early days of a technology, customers will pay for hand-holding and for services that they haven’t yet figured out how to do for themselves. But there’s a long history in the technology world of people moving up the learning curve and doing things for themselves that they used to pay others to do for them. Look at AOL, which provided a sort of Internet for newbies and which has struggled for years as those newbies have grown in confidence and learned to venture online on their own. There’s also a long history of products that were once sold separately that are now essentially free. Look at the word-processing software and spreadsheets for personal computers that sold for several hundred dollars apiece in the 1980s and that now come bundled with a new computer. Look at all the early PC software add-ons, such as calculators and calendars, that have long since been absorbed into the operating system.
Fisher promised early on that Kodak’s digital-photography business would be profitable by 1997. It wasn’t. For good measure, Kodak’s rivals in the traditional film business started a price war that caught Fisher by surprise. Kodak, the film industry’s high-cost producer, laid off nineteen thousand employees, more than 20 percent of its workforce.
As it happens, another fateful event took place in 1997: Philippe Kahn’s wife had a baby.
Kahn, a serial entrepreneur, found himself with some time on his hands while sitting in a hospital while his wife was in labor. Kahn had been a story in the early days of the personal computer because he founded Borland Incorporated, which provided software development tools. He had famously founded the company while an unemployed mathematician and illegal immigrant from France. The way he tells the story, the U.S. government eventually caught up with him and talked about kicking him out of the country, then realized he employed several hundred well-paid Americans and decided to give him a green card instead. After Borland ran into problems, Kahn founded Starfish Software Incorporated, which provided synchronization capabilities for wireless devices. Then, as he sat in the hospital thinking about the pictures he was going to take with his digital camera, he wondered why he had to take them back to his computer to upload them and send them around. Why couldn’t he just send them straight from his cell phone? Over the next few days, Kahn jerry-rigged a system to do just that. The cell phone camera was born.
Kodak didn’t just lose out on more prints. The whole industry lost out on sales of digital cameras, because they became just a feature that was given away free on cell phones. Soon cameras became a free feature on many personal computers, too.
With the move to digital now fully under way, Kodak and Fisher had run into what some in the technology world call “the Las Vegas business model.” The name comes from the fact that it’s hard to be just a hotel or a restaurant in Las Vegas, because the casinos are happy to give rooms and food away if it’ll increase their gambling revenue. You can have a great hotel or a great restaurant, but it’s hard to compete with free.
What had been so profitable for Kodak for so long—capturing images and displaying them—was going to become essentially free. Yes, people had to buy the initial devices: the cameras and cell phones. But then the ability to share images was going to be provided by companies other than Kodak at no additional charge, as part of Internet and cell phone services.
It’s not as though Kodak didn’t have any warning. BusinessWeek wrote this in 1997:
“While Fisher is still struggling to reinvent Kodak as a digital company, serious questions remain about whether that business . . . can ever pan out.”
Fortune wrote this even earlier, in 1995:
“The conversion from film to electronics may take 30 years or ten years or (watch out!) five years. . . . Hardware prices will fall enough to make digital imaging as common as home computers. . . . Fisher’s goal is to make sure Kodak can survive the ambush, whenever it comes. Not an easy task. Some 45 percent of the company’s $13.5 billion in revenue and 75 percent of its profits come from traditional photography in North America. That means Kodak’s biggest profit maker will be at ground zero when digital competition strikes.”
Fisher’s response in the article? “But Kodak has to grow.”
And yet it didn’t. Kodak’s revenue today is about equal to the 1997 total of $13.41 billion.
Fisher stepped down as CEO at the end of 1999, at age sixty, with a year to go on his employment contract, amid speculation that the board pushed him out the door.
Fisher vociferously denied that he was asked to go and argued that he had done everything he could to position Kodak for the digital future. When he was reminded that he’d promised that Kodak’s digital-photography operations would be profitable by 1997, yet racked up $100 million in losses in 1999, Fisher replied combatively: “You call it losses. I call it investment.”4
The new CEO was Daniel Carp, a Kodak lifer who had been with the company twenty-nine years and had no background in technology. Carp, like Fisher before him, came in with grand promises. The 2000 annual report bragged about all the prospects for digital photography, a category Kodak named with the clunky neologism “infoimaging.” The report described infoimaging as a $225 billion-a-year market and claimed that Kodak technology “touched” 75 percent of all images on the Web and is “the catalyst for value creation for virtually every company who produces infoimaging products and services.” Carp vowed that Kodak’s sales would grow 8 percent to 12 percent a year and that profit would climb 10 percent annually for the following five years. Carp’s worst-case scenario, as laid out for Forbes, was that the photography world would go digital much faster than Kodak anticipated, in which case profit would rise “only” 8 percent a year.5
Didn’t happen. In 2000, Carp’s first year as CEO, profit was about flat, at $1.41 billion. Then profit plunged 95 percent, to $76 million in 2001. That’s about what profit averaged from 2002 through 2005, when Carp, too, retired early, at age fifty-seven.
Carp had pursued Fisher’s basic strategy of “enhancing” the film business to make it last as long as possible, while trying to figure out some way to get recurring revenue from the filmless, digital world. But the temporizing didn’t work any better for Carp than it had for Fisher.
Kodak talked, for instance, about getting customers to digitize and upload to the Internet more of the 300 million rolls of film that Kodak processed annually, as of 2000. Instead, customers increasingly skipped the film part. In 2002, sales of digital cameras in the United States passed those of traditional cameras—even though Kodak in the mid-1990s had projected that it would take twenty years for digital technology to eclipse film. The move to digital in the 2000s happened so fast that, in 2004, Kodak introduced a film camera that won a “camera of the year” award, yet was discontinued by the time Kodak collected the award.
Kodak staked out a position as one of the major sellers of digital cameras, but being “one of” is a lot different from owning 70 percent to 80 percent of a market, as Kodak had with film, chemicals, and processing. Besides, Kodak expected gross profit margins of just 15 percent on digital products, versus the 60 percent it enjoyed on its traditional film, paper, and chemicals. In 2002, competition in the digital market was so intense that Kodak was losing $60 on every $400 camera it sold.6
There are signs that growth is already slowing in sales of digital cameras. The ubiquity of cell phone cameras is cutting into sales of the low-end, snapshot cameras that would find their way into a pocket or a purse. Meanwhile, quality has increased so much at the high end that many people have as much camera as they’ll ever need and aren’t tempted to upgrade each time a camera comes out with more megapixels. In addition, customers are more often sharing images by e-mailing them or sending them to a friend’s cell phone, without ever printing the images. After all, there’s only so much room on your refrigerator for photos of your nieces and nephews; you can get a chuckle out of the photo of six-month-old Johnny with sand all over his face without printing it and giving it primo refrigerator space.
Under Carp, Kodak bought Ofoto, which lets customers post photos online in the hopes of selling prints to them or their friends. But others staked out the territory long before Kodak, so Ofoto is just one among many.
Carp stayed hopeful to the end. When a reporter suggested to Carp that Kodak might sell itself to Yahoo! or Hewlett-Packard, Carp glared and said, in essence, “Over my dead body.”7 In 2003, Carp said, “People are no longer saying film is dead. That’s a major change. . . . There are still ways to expand the life of film and expand the category. . . . Investors now see digital really evolving, but it’s not an on/off switch.”8 In 2005, accepting an award from the Business Council of New York State, Carp said he had successfully managed Kodak’s transition from film to digital, a challenge that he described as “the most liberating, most exhilarating and most enriching phase in my career.”
Except that he hadn’t managed the transition, at least not according to his successor, Antonio Perez. Perez took over from Carp in May 2005 and promptly instituted what he called a four-year plan to make that very transition.
In all, Kodak has lost 75 percent of its stock-market value over the past decade, falling to a level about half of what it was when the reporter suggested to Carp that he might sell the company. As of 2005, Kodak employed less than a third of the number who worked for it twenty years earlier.
We’re not saying Kodak’s situation was easy. Far from it. We’re just saying Kodak could have handled its situation much better. It could have sold itself in the 1980s or 1990s at a far higher valuation than it now has, and let the acquirer deal with the switch to digital technology. Kodak could have streamlined operations aggressively, not piecemeal. Kodak could have milked all the cash possible from its business, while winding down the traditional film business. Kodak could have moved faster into the digital world, capturing a greater share of sales of cameras and printers and, perhaps, the revenue from picture Web sites and cell phone cameras—surely, Kodak’s labs had access to the same technology that Philippe Kahn did.
To see what might have been, look at Kodak’s principal competitors in the film and paper markets. Agfa temporized on digital technology, then sold its film and paper business to private-equity investors in 2004. The business went into bankruptcy proceedings the following year, but that wasn’t Agfa’s problem. It had cashed out at a halfway reasonable price. Fuji did even better. It gave up its old business and moved into the digital world. By the end of 2003, for instance, the company’s traditional products—film, paper, and chemicals—accounted for just 42 percent of revenue, compared with 61 percent at Kodak. In the process of attacking the digital world, Fuji developed technologies that were fundamental to flat-screen displays, which have been in great demand as they have become popular both as computer monitors and as televisions. In that same decade when Kodak lost three-fourths of its market value, Fuji’s market value increased.
RED FLAGS
As Kodak demonstrated ably, companies that face a looming threat often make three mistakes:
• They tend to see the future as a variant of the present and can’t bring themselves to imagine truly radical threats, the kind that might wipe out their whole market.
• They tend to consider whether to adopt a new technology or business practice based on how the economics compare with those of the existing business—not accounting for the possibility that the new technology or approach to business will eventually kill the economics of the existing business and require an entirely new business model.
• They tend not to consider all their options. They focus on shoring up the existing business and ignore the possibility that perhaps they should sell that business or at least cut back significantly.

The Future as a Variant of the Present

Even though Kodak saw the threat from digital photography clearly, more than twenty-five years ago, executives never quite internalized how severe that threat was. They had grown up with prints. They loved prints and the bright yellow boxes they came in. They assumed everyone loved prints as much as they did. So what they saw when they looked at the digital threat was a world that, while changed, would still be centered on prints.
They could imagine that people might want to make some prints on their own, at home. They could imagine that people might want to avoid the waste of printing bad photos. They could imagine that people wanted better prints, without red-eye, cropped as they pleased, with exactly the right lighting.
What Kodak couldn’t imagine was a world where images were evanescent expressions, sent as a lark via e-mail or cell phone and never printed. Kodak executives couldn’t fathom a world where images became the wallpaper on a cell phone or computer screen but never touched paper, or where lots of images were uploaded to a Web site and viewed but never turned into 4‘ × 6‘ chemically coated glossy pieces.
That Kodak saw the future as a variant of the present is why the company came up with its neither-fish-nor-fowl strategy, in which it assumed digital was just a new way of producing prints rather than potentially a powerfully different animal altogether. Viewing the world through the prism of prints is why Kodak consistently underestimated the speed with which digital would overtake film and prints.
The music industry has made the same sort of mistake, by assuming for the longest time that people would buy full CDs (including the dog songs that nobody liked) and do it through traditional distribution channels. The industry couldn’t envision a world in which Steve Jobs ruled, in which songs could be purchased individually for less than $1, and in which the only distribution channel that was needed was a cord to connect your iPod to your computer.
While not all the details about the industry’s transformation had been clear—especially the Steve Jobs part—it had been apparent for years that music was vulnerable, because it was just a stream of information like many others whose profitability had been attacked by the Internet. We personally warned the number two executive at a large, privately held music distributor whom we interviewed for a report we published in 1997 because we were stunned to see how blasé he was about what the Internet could do to his business within a few years. (We promised anonymity at the time, so we won’t name him or the company here, either.)
Because most music companies are part of conglomerates, it’s hard to demonstrate just how profoundly the industry has been hit, but here are three data points: 1) Music industry revenue fell 15 percent in 2007 even though digital downloads rose 45 percent;9 2) The company whose senior executive we interviewed has since gone public and records well north of $1 billion in sales each year but, as of this writing, carries a market valuation of less than $30 million; 3) The executive we interviewed has long since left the company.
Leaving aside the world of technology, Safeway Incorporated was also guilty of seeing the future as a version of the present when it made disastrous acquisitions in the 1990s. Wal-Mart had already entered the grocery business. It had been identified as the catalyst in twenty-five of the latest twenty-nine bankruptcies of retail chains,10 and it was establishing itself as a monster in groceries. Its ruthless pressure to cut costs let it push prices so low that few could compete. Yet Safeway followed the traditional grocery-industry approach of trying to spread its geographic reach and wipe out competitors so it could increase prices, rather than find some way to either compete with Wal-Mart on price or differentiate itself through quality, service, or some other means. Safeway bought Dominick’s Supermarkets Incorporated and Randall’s Food Markets Incorporated for $4 billion in the late 1990s to expand its geographic reach. Safeway later wrote off some $2.4 billion related to the acquisitions.
Our favorite bit of wishful thinking came from Jamie Kellner, chairman and CEO of Turner Broadcasting System Incorporated, in 2002. Rather than accept that TiVo and other digital video recorders were forever changing the traditional model of TV ads, Kellner fought a rearguard action, telling viewers: “Your contract with the [TV] network when you get the show is you’re going to watch the spots. Otherwise you couldn’t get the show on an ad-supported basis. Anytime you skip a commercial . . . you’re actually stealing the programming.”
Kellner briefly relented: “I guess there’s a certain amount of tolerance for going to the bathroom.”11

Making the New Measure Up to the Economics of the Old

If Kodak had been starting from scratch, it would have salivated at the prospects for digital photography. It would be able to sell cameras in all forms, from inserts in cell phones and personal computers on up through professional models with expensive, interchangeable lenses. Kodak could sell printers and software that let people enhance their photos before printing them. Kodak could sell prints.
But, compared with the traditional film business, digital was never going to measure up. Digital wasn’t going to deliver the 60 percent gross margins that were possible in film, paper, and chemicals—especially when digital was in the early stages and Kodak was losing $60 on every $400 camera it sold. The biggest problem was that there wasn’t recurring revenue. Once you sold a camera and maybe a printer to a customer, you were pretty much done.
So Kodak fell into a trap. It continued to make short-term evaluations on profitability and slowed its move into digital, rather than bite the bullet and either move to a totally new, digital business model or sell the company.
This is a common trap. Clay Christensen, Stephen P. Kaufman, and Willy Shih wrote in Harvard Business Review that widely used financial tools, designed for tough analysis, actually lead companies into this trap. For instance, the authors say companies often ask whether a move into a new business will leave the company better off or worse off. The problem is that the analysis almost always assumes that the business will maintain a steady state, absent any change in strategy—not that the business will plummet because of the sort of fundamental challenge that digital photography poses. Ignoring the likelihood of a significant decline, if nothing is done, encourages companies to avoid radical change.
Studies find that securities analysts reinforce this trap. They all develop a basic financial model for an industry, and they aren’t quite sure what to do when companies stray from that model, as they must if they’re trying to make a switch like the one from film to digital technology. So analysts tend to punish companies when they move into uncharted territory. If companies pay too much attention to analysts, they can become even more likely to hold on to a dying business model for too long.12
Polaroid Corporation fell into the same trap that Kodak did. While product managers were enthusiastic about the prospects for digital photography in the early 1990s—they figured they, of all people, should own the market for truly instant images—senior executives wondered why they would trade the 60 percent gross margins of their existing business for what they calculated as the 38 percent margins they could get selling digital hardware.
Polaroid actually had a war chest it could have spent on digital, courtesy of Kodak. Kodak had tried to move into Polaroid’s instant-camera business in the mid-1970s; Polaroid sued for patent infringement and, after the case spent years wending its way through the court system, was awarded $925 million in damages in 1990. Instead of moving into digital, though, Polaroid made some short-term moves to shore up its existing, more profitable business. It expanded overseas, reasoning that less-developed countries would have less of the infrastructure needed to develop film and would be more inclined to go for instant pictures. It moved into the toy market and popularized cameras like a Barbie model. Polaroid’s biggest success was the I-Zone, often sold at supermarket checkouts, which produced postage stamp-sized photographs with adhesive backs that could be used as stickers. Though the photos were of poor quality, kids found them cool, partly because the cameras came in colors with names like Go Grape Sorbet and Wicked Wasabi. Britney Spears used the camera onstage to snap pictures of fans.
But Polaroid’s successes were short-lived. Kodak, Fuji, and others followed Polaroid into developing countries and set up photoprocessing centers, undercutting Polaroid. And buyers of Polaroid cameras as toys or sticker makers deserted as fast as they arrived. The I-Zone fad lasted for just parts of 1999 and 2000.
Polaroid also tried to produce 35mm instant film, to compete with the 4” × 6” photos that regular film produced. In addition, Polaroid worked on video that would develop itself in minutes. Neither worked. Polaroid’s 35mm pictures couldn’t match the sharpness of regular film. The self-developing video produced too much heat to work properly; having it develop mostly sent out plumes of smoke, while melting parts of the images.
In the meantime, Polaroid had been hurt by the spread of one-hour photoprocessing; the quality of the prints was so much better than what Polaroid produced that many customers were willing to wait that hour. In addition, digital hit Polaroid faster than it did Kodak. While people associated Polaroid with birthday parties, in fact, many of its cameras were used for commercial purposes, such as insurance claims adjusters who needed a picture of a damaged car. Commercial users were among the first to go digital.
Having delayed dealing with digital because its economics didn’t measure up, Polaroid declared bankruptcy in 2001.
In his book The Innovator’s Dilemma, Clay Christensen shows just how common a trap it is for companies to ignore new technologies partly because their economics don’t measure up to the old. He shows how disk-drive makers that led the market in one generation of technology repeatedly failed to see the prospects for the next generation. He shows how every maker of mainframes was slow to move into the market for minicomputers, and how all the minicomputer makers initially mishandled the market for personal computers. Importantly, Christensen also shows that the dilemma he describes about oncoming threats reaches beyond the technology world into heavy industries such as earthmovers and steel.

Not Considering All the Options

Kodak’s approach to the coming threat of digital photography was summed up neatly by CEO George Fisher’s statement,“But Kodak has to grow,” and by successor Daniel Carp’s glare when the possibility of selling Kodak was raised.
It was hard for Kodak executives to even consider that something might replace those colorful prints they loved so much. It was almost impossible to consider selling the company or just milking it for cash as the film business wound down.
And yet.
As numerous outside analysts noted at the time, once digital started to grab hold, there was never any chance that the new technologies would do anything but savage Kodak. The only questions were how quickly the problems would appear and how completely the use of traditional prints would go away.
Kodak would have done best if it had been willing to sell itself before the beginning of the new millennium—in other words, after the depths of the digital threat had become clear but while Kodak still carried a market valuation north of $20 billion. Failing that, Kodak could have recognized the shift to digital earlier and tried to dominate niches where film and prints would still be used—such as grandmas and certain commercial applications—while rapidly scaling back investment in the future of film and trying to find profitable parts of the digital market. In other words, no Advantix cameras or Image Magic photoprocessing equipment that cost a lot of money while failing to extend the life of the film market.
Paging company Mobile Media Communications Incorporated had even less of an excuse than Kodak, because pagers were essentially a fad that lasted only several years, not more than one hundred years, like film cameras. It shouldn’t have been that hard for Mobile Media to see that cell phones were going to supersede pagers. Sure, pagers were cool there for a while. It wasn’t just repairmen who consulted them to get updates on their next assignment. Almost every self-respecting executive had one clipped to his belt, so everyone could see he was a with-it type who could be reached immediately about any urgent news. Besides, cell phones were still bulky and calls expensive in the mid-1990s, when pagers were in their heyday. But cell phones, being electronic, follow Moore’s Law, so they were always going to get small and cheap. Pagers were destined to be the electronic version of pocket protectors, making wearers look geeky—not like those sleek cell phones or BlackBerries, which could send and receive text messages and do much, much more. Yet Mobile Media, like Kodak, never considered any options other than growth.
Mobile Media looked great in 1995 when it went public and promptly bought two big rivals. It bought Dial Page Incorporated’s paging operations for $189 million. A month later, Mobile Media bought BellSouth Corporation’s paging arm for $930 million. Mobile Media had doubled in size, becoming the second-largest paging company in the nation. It turned its attention to integrating the acquisitions to become a hyperefficient national player. The company, like others, also focused on what it saw as the next generation of technology: two-way paging. At that point, someone sending a page either left a phone number on the pager or had an operator send a text message. The person receiving the message couldn’t respond via his pager. So companies were trying to remedy that lack.
Integrating the companies turned out to be much tougher than expected. Problems with the combined phone networks meant that operators sat around waiting for calls that never came through. Customer service deteriorated to the point that nearly 4 percent of customers left in the first quarter of 1996. “You could page yourself, and it would take seven to ten minutes” for the page to come through, said Kenneth A. Toudouze, a Dallas securities analyst and Mobile Media customer.13
In May 1996, Mobile Media issued a press release with the headline: “Acquisition Integration Running Ahead of Schedule.” But in June, the company was so stretched that it had to ask bankers to relax covenants on its line of credit. In July, the company began missing payments to suppliers. The whole thing snowballed.
Hellman & Friedman, the highly regarded San Francisco-based investment firm that made its name taking Levi Strauss & Company private in 1988, led the board on a purge of senior executives.14 When that didn’t work, Mobile Media filed for bankruptcy, in January 1997.
Actually, Mobile Media was lucky. Although it had focused on absolutely the wrong issues—achieving scale and moving to a new generation of paging, when pagers were about to become obsolete, at least as a mass market—the company’s problems with its acquisitions pushed it into bankruptcy early enough in the death throes of the paging industry that Mobile Media managed to sell itself to Arch Communications Group Incorporated in mid-1998 for $649 million. It was Arch that bore the full brunt of the decline in paging.
From 1999 through 2003, more than two-thirds of those who used pagers gave them up. With volumes so low, many manufacturers, including Motorola, stopped producing pagers. Arch, which had bought dozens of paging companies as it tried to achieve scale, filed for bankruptcy in December 2001. Almost every other paging company has also filed for bankruptcy. The only companies that did well during the decline of the paging market were those, such as BellSouth and Dial Page, that saw the freight train coming soon enough that they sold and got out of the way.
By rights, MicroAge Incorporated should have been one of those that saw the freight train coming in the market for personal-computer retailers in the late 1990s. The company had already been run over once and had gone through bankruptcy proceedings, before becoming a Fortune 500 company as a retail chain with $3 billion in sales of personal computers and related equipment. So MicroAge should have been more sensitive than most and should have been ready to move when the retailing of personal computers became so cutthroat that it was almost impossible for specialty retailers like MicroAge to survive. Yet, facing the threat posed by Dell Incorporated’s direct-order approach and by mass-market retailers such as Best Buy Company, MicroAge couldn’t bring itself to get out of its market of long standing, even though a new direction held great promise.
MicroAge was founded in the earliest days of the personal-computer industry. Actually, the PC retailer was founded even before PCs existed, at least as we know them today. The company began in 1976 when two Arizona bankers, Alan Hald and Geoffrey McKeever, became interested in an article in Byte magazine that said people could buy kits and assemble what were grandly known as microcomputers—“grandly,” because the computers didn’t even have a screen or a keyboard, let alone a disk drive or any of the other appurtenances that are commonly associated with PCs these days; input and output were handled through a series of toggle switches. Hald and McKeever bought a kit and built their PC/ microcomputer, then decided they could build a business.
They did, but they expanded too fast and went into bankruptcy court. They emerged in time, however, to benefit from the huge interest generated by the introduction of the IBM PC in 1981. Getting ahead of the curve, McKeever and Hald began negotiating partnerships with major computer companies. One, with Hewlett-Packard Company, led the two companies to develop products and services that let customers use networking technology to improve the efficiency of their businesses. MicroAge also sold franchises, and, between 1984 and 1985, saw the number of MicroAge stores soar from 36 to 178. MicroAge did well in the following years, but, by 1989, it decided it had to make a wrenching change. Competition had increased to the point where gross margins had become very thin. MicroAge had to find ways to cut its fees, or it would put its franchisees out of business. Hald and McKeever made the tough decision to slash their markups, and business boomed. Within a few years, MicroAge had more than 1,500 stores carrying its name.
“If you don’t figure out how to improve what you do each year, you’re going to be out of business fairly quickly,” McKeever said at the time.15
MicroAge plunged further into the networking business and found a receptive audience. Networks were notoriously fickle in those days, and companies were delighted to offload the installation and maintenance to a company that knew how to do the work and would troubleshoot problems. By the mid-1990s, sales were approaching $3 billion a year, and MicroAge had posted thirty-six consecutive quarters of profit in a difficult business.
By the late 1990s, however, the specialty computer-retailing business was untenable. Consumers had become comfortable enough with PCs that they were willing to buy them over the phone or online, straight from the manufacturer; retailers could no longer justify their markup. Consumers were also willing to go to nonspecialists, the big consumer-electronics chains, to buy computers. These chains didn’t make any money on the computers, either, but the computers rounded out their product lines and had to carry just a small share of the overhead rather than covering the entire expense of separate stores.
This time, Hald and McKeever couldn’t make the tough decision. They actually had a plan in place that would have jettisoned the retail business and moved MicroAge fully into networking, which was still a highly profitable business. But they couldn’t pull the trigger. They kept trying to make retail work. When it didn’t, the company went into bankruptcy again, in 2000, and this time was liquidated.
While technology companies such as Kodak, pager carriers, and MicroAge sometimes seem to hit the wall at a million miles per hour because of the rapid changes in technology, old-line manufacturing businesses can also get caught if they focus too long on the details of their day-to-day business and ignore a threat for too long. Pillowtex Corporation is a prime example.
Pillowtex, whose roots go back 120 years, was incorporated in Dallas in 1954 to manufacture bed pillows. The company soon began acquiring manufacturing plants throughout the country to establish a sophisticated “hub-and-spoke” network of manufacturing and distribution. The company developed a reputation for having a creative sales force and for setting trends on products. Pillowtex grew steadily and, by 1990, was known in the pillow industry as “the gorilla.”
Declaring that it wanted to be “the largest and most profitable maker and seller of pillows, comforters and bed pads,” Pillowtex made numerous acquisitions and invested heavily in technology. By the mid-1990s, all but 10 percent of Pillowtex’s customers were ordering without paperwork; when a cashier scanned a Pillowtex item in the checkout line, a replacement order was automatically generated.
By 1995, Pillowtex’s annual sales had reached almost half a billion dollars. It was the leading manufacturer of what were known in the industry as “top-of-the-bed” products, including blankets, pillows, mattress pads, and comforters. Through its subsidiary, Fieldcrest Cannon, Pillowtex was also the leading U.S. manufacturer of towels. Its many well-known home textile brands included Royal Velvet, Cannon, and Charisma. Pillowtex’s customers included practically every major North American retailer, from department stores and mass merchandisers to catalogs to large institutional organizations such as the U.S. Postal Service. The company offered more than ten thousand products.
But a threat had taken shape in 1994. Based on international trade agreements, the United States had begun a decade-long phaseout of quotas that had limited the import of goods that would compete with Pillowtex’s products. Increasingly, goods were going to come pouring into this country at prices that Pillowtex couldn’t possibly match.
The response was clear: Outsource production to developing countries and take advantage of low labor costs. In whatever industry, almost every company facing a challenge like Pillowtex’s has outsourced.
Pillowtex, however, redoubled its acquisition efforts, hoping that scale would let it become so efficient it could handle the competition from imports. The company’s SEC filings from the late 1990s barely even mention outsourcing as an option. Instead, the filings highlight the $240 million that Pillowtex was spending on new, efficient machinery for its U.S. plants in 1998 alone.
Annual revenue reached $1.7 billion, but customers weren’t willing to pay the prices that Pillowtex needed to charge. In 1999, the Motley Fool noted that inventory had risen 25 percent in one quarter while sales were up just 1 percent. “The company’s plants appear to be busy making things; they just aren’t what customers want,” the Fool wrote.
With imports killing Pillowtex’s prices, CEO Charles Hansen Jr. was asked in mid-2000 whether the company would consider a bankruptcy filing. “No way in hell,” he replied.16 Yet, by that fall, Hansen had resigned, and Pillowtex soon filed for bankruptcy.
During an arduous bankruptcy process, Pillowtex managed to close numerous plants and shed half its assets. The company also convinced lenders to slice its $1.1 billion debt to $205 million. Pillowtex had Wal-Mart as its biggest customer and had substantial financial backing, so executives were optimistic. The new president and chief operating officer, Tony Williams, announced that he had plans for making the company even more efficient than it had historically been, by trimming product lines, reorganizing manufacturing processes, and shortening cycle times to eliminate excess inventory.
But Pillowtex still hadn’t faced its fundamental problem: Overseas manufacturers had far lower labor rates.
By 2003, Pillowtex was back in bankruptcy. This time, the company liquidated. Although part of the company’s rationale for keeping manufacturing in the United States was to protect American jobs, the company dismissed 6,450 workers in the Southeast in the liquidation. The firings were the largest in the history of the U.S. textile industry.

Tough Questions

The problem is that acknowledging a threat isn’t the same as dealing with it. Discussions within a management team (at every level, up and down the organization) can become an echo chamber, where everyone repeats reassuring comments and decides that a threat can be managed without too much disruption. So companies facing a threat need to find ways to get out of the echo chamber and evaluate their situation objectively, using outside perspectives from customers and various experts.
One way is to seek out those who disagree with your company’s assessment of the threat and ask whether they might be right, at least on some aspects of the threat. Kodak, for instance, could have taken advantage of the articles in Fortune and BusinessWeek in the mid- to late 1990s that said Kodak was extraordinarily vulnerable to the switch to digital photography, that the switch could happen quickly, and that it might not be possible for Kodak to produce a business model that would be profitable in the new era. Rather than adopt a bunker mentality and decide that uninformed outsiders were picking on the company—the natural tendency at every company—Kodak could have assigned someone to line up all the evidence in support of the BusinessWeek and Fortune articles. Kodak could have used that evidence to challenge the strategy that assumed film would be profitable for a long time to come. While it’s impossible to know just how Kodak would have responded to the challenges, at the least Kodak would have seen the weaknesses of its strategy more sharply and sooner.
The press is an obvious source when looking for disagreement. So are securities analysts, who tend to be ostracized when they attack a company’s strategy but who can, in fact, be very useful if their concerns are explored in detail. Other analysts and competitors can also provide useful critiques.
As a threat unfolds, the tendency is for companies to assume that they have a good handle on how the problem will progress. Even when surprises develop, companies use twenty-twenty hindsight to say that, well, they really knew the surprise might be coming. So the only real way to know whether you have a handle on the speed of a threat’s progress is to develop a sort of diary with a very specific set of predictions, so you can see whether you’re right or whether the threat is coming at you faster than you expected.
Based on its assessment of digital photography in 1981, Kodak could have felt pretty confident that it understood where digital photography was going for the entire decade, but it should then have continued to monitor the explicit assumptions upon which it had based that assessment of the expected conditions for 1990. By monitoring the underlying assumptions, Kodak would have been able to determine how quickly each barrier to the adoption of digital photography would fall—how soon it would be possible to print high-quality photos on personal printers, how soon it would be easy to e-mail photos around, how soon it would be easy to display digital photos on computer screens and other electronic media, and so on.
It’s crucial that these assessments be extremely detailed and based on data or judgments from outside the corporation. In Kodak’s case, predictions about personal printers could have been based on the dots per square inch that could be produced on them, on their prices, on the number sold, and on other measures that could be quantified. If the projections were based on fuzzy numbers or subjective evaluations, Kodak could have held on to the notion for years that personal printers weren’t very good and that, by extension, Kodak was on top of the digital threat. By contrast, precise predictions would have shown Kodak that the threat was materializing surprisingly fast.
In evaluating how quickly a threat is coming, you should also consider that there may be a flash point at which the new technology or business model takes over. In other words, the threat’s progress may be linear for a time, but then the threat may suddenly take over the whole market. This happened with cable television, for instance. The industry steadily added households for years. Then everything came together, and penetration went from 20 percent to 60 percent of U.S. households in five years.17
It’s rarely certain that a flash point will occur, so companies may still be able to maintain their complacency despite the prospect that a whole market may virtually disappear in short order—as Kodak did well into the 2000s. But the history of companies in similar situations can provide some clues. And, at the least, raising the possibility of a flash point should produce some contingency planning about what to do if one occurs.
Taking into account the predictions about the speed of a threat’s onset and whether its progress will stay gradual or reach a flash point, companies should develop a business model for how their company might look once the threat hits. The model will, of course, be sketchy because it won’t be clear how the future will look. Still, the model would force companies to put key assumptions on the table for debate. That way, companies could keep coming back to revisit those assumptions and revise the business model as the future becomes clearer. Companies would also have a way of testing to see whether they are just taking actions to shore up the short term without addressing the long term—in fact, the short-term actions sometimes make it harder to move to the long-term solutions, as was the case when Kodak kept wasting cash on film, photoprocessing, and film-camera technology that had no place in a digital business model.
If Kodak had done a digital business model, it would have had to make assumptions about how much profit it could still get from film in, say, 2010, how much from chemicals, how much from its new digital business, and so forth. It would then have been able to see that its assumptions looked increasingly unrealistic and would have felt a greater sense of urgency.
Even with a sense of urgency, companies need to ask themselves whether they are considering all their options. Typically, there are blind spots that prevent them from doing so. To try to remove those blind spots, companies should periodically force themselves to go through an exercise like one Michael Porter has laid out for evaluating how to proceed in a declining business.
The model is simple. It is based on two questions. First, does your industry have a favorable structure for decline? In other words, is your industry like steel, which would still offer profits while revenue declined? Or is your industry like traditional photography, which would mostly disappear once digital took hold? Second, can you compete successfully for the remaining demand? In other words, are you like Kodak, with a great brand? Or do you not only lack a brand but also lack other assets, such as a low cost structure?
If you can’t compete and are in an industry with a crummy structure, Porter says to sell, sell, sell—as soon as possible. If you can’t compete but are in an industry with a good structure, Porter says to sell pieces of the business selectively while seeking to get the most cash flow possible by eliminating or curtailing new investment, maintenance, research, and advertising while reaping the benefits of past goodwill. If you, like Kodak, can compete but are in an industry with a bad structure for handling decline, Porter says to seek niche markets that have high returns and that aren’t declining as fast as the rest of the market. He says to move into those niches aggressively while getting out of the rest of the market. If you can compete and are in an industry with a good structure, Porter says to exert leadership. He says to establish cost leadership while avoiding destabilizing activities such as price wars.
Porter says that a study of sixty-two companies in eight declining industries found that those that followed his approach had a 92 percent chance of playing the market right, while those that didn’t follow his approach had just a 15 percent chance of success.18 We can’t vouch for the numbers, but an approach such as his would certainly help companies consider all their options, including: getting out of part or all of a threatened market; winding down the business while extracting as much cash as possible; or selling the company outright.
One note: It’s much easier for a boss to insist that all options be considered than it is for the person running the business to do so. That’s true whether the person running the business is the CEO or a department manager. The person running the business always has incentive to maintain his empire. Usually, he’s been involved in building the business, and he’s reluctant to say its days have passed. So bosses need to give a shove in the face of any possible threat. That includes boards of directors, which need to insist that CEOs consider dismantling or selling a business before the threat becomes so great that its value plunges. That way, it’s much more likely that your company will be like BellSouth, which sold its paging business before the cell phone killed the industry, and not like Arch Communications, which kept buying paging companies right up until the end.