Producing 7% to 10% profitable growth year after year for ten to fifteen years is a formidable challenge. Whether riding a favorable market, exploiting innovation, leveraging competitive advantage, expanding in new geographies, or any other means – growth engines eventually run out of steam. Some companies have been able to sustain these growth rates for more than 20 years, including Apple, Intel, TSMC, Tetra Pak, Southwest Airlines, Coca Cola, Precision CastParts, and Walmart, to name a few. In all cases, companies derived growth from two sources: growth in the market and gains in the firm’s market share.
To explain this level of success, we distinguish between two types of profitable growth: short-term growth and long-term growth. The reason for the distinction is that they target different objectives, represent separate challenges, involve specific levers, and require distinct levels of management.
SHORT TERM GROWTH
Short-term growth of 7% to 10% per year for the next three to five years requires exploiting a substantial competitive advantage in a growth market. Such exploitation can involve new technology, new products, cost leadership against competitors, a lock on the delivery system, control of the value chain, and many other forms of advantage. What is particularly important is to deploy this advantage in growing markets.
The second lever of growth is to gain market share. This strategy functions on investments above the level of what regular market growth requires, with the aim of strengthening market position. Investments fund activities such as new market entry, channel expansion, regional or global expansion, penetration of new customer segments, gain in share of customer spend, product development (next generation, complements, support services), expanding steps in the value chain, and increased marketing and sales.
These are the actions and responsibilities for head offices, divisions, and business unit management teams. Their concern is to improve performance, deliver annual growth, maintain market positions, and defend profitability against competitors. By design, these units are tasked to operate within the confines of their activities, which are limited in scope, and not missioned with long-term growth.
LONG TERM GROWTH
Long-term growth of 7% to 10% per year for the next ten to fifteen years presents an entirely different challenge with a significant impact on the financial performance of the company. The challenge, in this case, is to move the company into more attractive fields. The levers at one’s disposal include the following:
- Delivering breakthrough technology: Tetra Pak started in 1951 with the original concept of providing hygienic pre-packaging for liquid foodstuff. Since then, the company has built a vast array of proprietary production technologies, supporting equipment, and packaging materials, and has become the largest food packaging company in the world with sales of €13.8 billion in 2017, operating in more than 170 countries.
- Redefining the business scope and business model: As a result of declining revenue in 2002, Intel changed its business model design from being the dominant manufacturer of microprocessors for the PC world to become a supplier of integrated networking and communications for OEMs. The shift was a gradual transition to a platform for converging computing and communications to serve the telecom industry. Eventually, Intel was able to grow revenue from $35.4 billion in 2006 to $78.9 billion in 2018.
- Transforming the industry structure: As a pioneer in the airline industry, Southwest Airlines (SWA) began operating a unique business model that serves customers looking for quick, low-cost and reliable flights from point to point. This design has allowed SWA to become the largest carrier of domestic passengers in the U.S. As of July 2017, the airline had more than 55,000 employees, operating more than 4,000 departures a day during peak travel season. SWA redefined the rules of competition in the industry and has become the business model for other airlines to copy.
- Establishing industry leadership through systematic acquisitions: Precision CastParts (PCC) is an aerospace company that grew revenue through highly systematic acquisitions, increasing revenue from $41.5 million in 1985 to over $10 billion in 2015, at which point Berkshire Hathaway privatized it.
- Leading active market consolidation: In 1994, DirecTV launched its direct broadband satellite service. Over time, it consolidated the market through a string of acquisitions, notably USSB, Primestar, ReplayTV, Liberty Entertainment, and Life Shield. By 2017, the company had consolidated the U.S. market down to a handful of players (DirecTV, Dish, and cable programming), and reached 21 million subscribers and total annual revenues of $12 billion.
- Shifting into related industries: In 2004, Qualcomm began to move its business model from being a pure semiconductor firm to taking control of the wireless value chain. The evolution of the new business model design was gradual and eventually succeeded, resulting in a revenue increase of 250% from 2006 to 2014, with operating margins at 29% in 2014.
These long-term strategies and responsibilities pertain to the CEO and the board. They comprise major necessary moves in an industry of otherwise low growth and high concentration and answer the complex question of where to look for growth in the long-term. These strategies anticipate attractive sub-sectors and the competitive structure of the industry in the next five to ten years and undertake a fundamental recalibration of the company’s core business and portfolio mix of activities accordingly.
These levers for profitable growth are not the exclusive province of large companies. Every successful company had to start small and grow large by sustaining profitable growth through intelligent choices along the way. Prime examples discussed are Tetra Pak, SWA, and Precision CastParts, but there are many others, including IKEA, Priceline, Dell, and DirecTV to name a few.
Profitable growth in the short term (three to five years) comes from market growth, market share gains, and profit improvement. For most companies, traditional strategies based on exploiting a substantial competitive advantage in growth markets works adequately in well-structured industries. The question is how do you grow after the short term? The growth of the industry and the underlying demand is finite. Eventually, growth slows down.
Building a long-term strategy of profitable growth in industries at maturity, poorly structured, or nearing the end of their life cycle is complex: what is the path to 7% to 10% annual profitable growth for companies in these industries? For instance, for a $1 billion company, 7% annual revenue growth for five years means increasing revenue by $400 million. Where will this growth come from? The answer is not apparent. As discussed in the examples above, the goal for the CEO and the board should be to invest in high-growth segments, change the business model, or move the company to more attractive sub-sectors in more promising industries. Various levers are available; the solution is finding the right moves.
How will your company grow?
What is your strategy?