Wednesday, September 20, 2017

The Sustainable Zone

Any firm that wishes to have longevity must serve two masters: the customers who benefit from the good or service it provides, and the stakeholders who furnish capital and labor that enable the product to be previsioned.    It seems a simple enough concept, but I find that I often need to sketch out a Venn diagram to explain it to both sides: those who wish to create value to the customer at a loss of income to the firm and those who wish to create profit for the firm at the loss of value to the customer.   Neither of these is a sustainable strategy.

In its naissance, most firms are targeted toward providing value to the customer.   The founder generally recognizes that “people need [product]” and arrangements are made to provide it to them in an affordable manner.  The focus is entirely on the customer, and very often with little regard to the financial interests of the firm.   Hence, most new businesses fail: they are wildly popular with customers who are getting more than they pay for, but ultimately cannot be financially sustained.

As a firm grows, it becomes inclined to seek value to the stakeholders, generally more toward the providers of capital than of labor, but there are instances in which a firm has been nibbled to death by its own workforce.  The focus is on the profit of the firm, and customers are expected to accept compromises to the benefits they receive.   Eventually, even the most loyal customers recognize they are getting less than they pay for and leave.  The firm may be highly efficient, but becomes unprofitable and cannot be sustained not because of waste, but because of insufficient revenue.

In practice, there are few situations in which a firm is entirely aligned to one side or the other.   A firm devoted to customer service still recognizes it needs sufficient income and efficiency to maintain its operations, and a firm devoted entirely to profit still recognizes it needs to provide some level of value to its customers to have revenue at all.   The difficulty lies in striking the proper balance in its operations.

And in that regard, firms are inclined to drag customers over the border into serving its interests rather than being willing to take a loss to serve the interests of the customer.   This is the reason that so many products on the market are imperfect – customers begrudgingly accept that the product is barely capable of serving their needs, or that they are getting a satisfactory product but paying a significant premium over a generic solution to get marginally better quality.

And then, there is the matter of mutability, as firms pendulate into the areas to either side of the sustainable zone.   The firm realizes it is financially unsustainable and swings away from serving its customers well, then loses so many customers that it becomes panicked about its revenues and swings back to service at a financial loss.   It can play this game for decades if it earns enough loyalty during its customer-oriented years to keep them from defecting in droves when it enters a profit-oriented era.

It can usually be seen when a company changes executive management: the CEO who was brought aboard to solve the company’s financial woes is ousted when the measures he takes drive away customers.  He is replaced by a new CEO who is service oriented, and who brings back the customers, until this results in a diminished financial performance for the firm, at which point he is ousted to make room for a finance-oriented CEO.   Lather, rinse, and repeat.

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