Business strategists like to think in portfolio terms. Whether it’s a question of cash cows versus rising stars or of businesses that prosper at different points in an economic cycle, it’s useful to have a framework for analysing the mix and balancing investments wisely. With the publication of The Alchemy of Growth in the 1990s, Mehrdad Baghai and his colleagues from McKinsey & Company taught us to view portfolio management as having three time horizons. In their formulation, Horizon One corresponds to managing the current fiscal-reporting period, with all its short-term concerns; Horizon Two to onboarding the next generation of high-growth opportunities in the pipeline; and Horizon Three to incubating the germs of new businesses that will sustain the franchise far into the future. This time-horizon perspective is especially valuable for an executive team trying to ensure its enterprise will endure and grow over the long-term. Like good farmers, managers see they must simultaneously harvest the current crop, till the ground for next season and investigate new crops for the future. When enterprises find themselves caught off-guard by a changing marketplace, management often assumes its mistake was in failing to invest sufficiently in Horizon Three projects. That turns out to be wrong.
Consider the lessons learned over the past two decades from the technology sector, where managing for the long-term has a faster cycle time than in other industries. Think of the truly great technology franchises that lost their way during that period — AT&T, Digital Equipment Corporation, Kodak, Polaroid, Silicon Graphics, Sun, Wang, Xerox, and others. None of them abandoned their ambitious and futuristic R&D agendas. They all invested for the long-term, many brilliantly so. The trouble was, none could bring their long-term investments to fruition. None, in other words, could successfully move their businesses from Horizon Three through Horizon Two to Horizon One. It is Horizon Two that is the point of concern and debate in this scenario.
Is your organisation suffering from a similar Horizon Two vacuum? Is it relying upon an aging portfolio, hoping to be rescued by next-generation offerings that seem to float forever just out of reach? If so, you are in a dangerous position and need to recognise the business dynamics that put you there. Executive teams in a few companies have already done so and are actively working to counter the devastating effects these dynamics can have on otherwise promising innovations. In this article, we’ll look at interventions being made at one company, Cisco Systems, as it seeks to extend and perpetuate its franchise. But first let us examine the common problems that make such interventions necessary.
Betwixt and between:
At first glance, Horizon Two projects at an established company would seem to have everything going for them: Entree to an existing customer base via a sales force already deployed, access to a supply chain already operating with scale efficiency and financial sponsorship from investors sympathetic to their causes. What’s not to like? How could projects like IBM’s OS/2, Lotus’ Notes, Microsoft’s Search, Apple’s Newton and Intel’s forays into anything beyond the microchip possibly have failed?
How is it that Kodak hired George Fisher out of Motorola in 1993 to lead its digital-imaging renovation, and Antonio Perez is only now, in 2007, getting traction on that effort? What is the undoing of these innovations?
The first thing to recognise is that Horizon Two lies in a kind of no-mans-land in the corporation. The company’s budgeting, reporting and management processes all focus on the current fiscal year — with compensation and incentive systems underscoring accountability for it. Financial reporting to investors forces an even more myopic concentration on the current quarter. And so it is that Horizon One stakes major claims on time, talent and management attention. Meanwhile, the same managers, cognisant of their stewardship role, periodically go through the exercise of extracting themselves from day-to-day concerns in order to contemplate their long-range strategic options. They draw on the data of research analysts and the frameworks of business authors and strategy specialists to draft multiyear plans and make long-term investments. In particular, the capital expenditure process in asset-intensive businesses ensures that Horizon Three gets significant attention over the course of a year.
All this leaves little time and management attention for goals that are short of long-term, though not contained in the budget year. These projects are strategic but not yet material.
When companies eat their young:
Horizon Two problems actually begin with something we could call Horizon Three lobbing behaviour. Lab-centric inventors are notorious for throwing prototype-stage products over the transom long before there is any business to be commercialised. These inventors take no responsibility for building a stream of business to a level where a deployment-oriented organisation could take it over. In their defence, it’s not what they’re hired to do; their job is to stay on the leading edge. Nor do they typically have the skills required for entrepreneurial deployment. But absent that activity and genuinely valuable opportunities go nowhere. The organisation lets them twist, in the memorable words of John Ehrlichman, “slowly, slowly in the wind”. Sometimes, as the history of Xerox PARC demonstrates, the result is doubly damaging, because the uptake happens elsewhere. The innovation produces massive returns for everyone except the sponsoring enterprise.
Top management often recognises the organisation’s tendency to shun offerings that are not quite ready for prime time and tries to fix the problem by mandating they be sold to customers. Under such marching orders, however, salespeople develop compensating behaviours. One common tactic is to use Horizon Two innovations as “demo bait”, — exploiting their novel appeal to get meetings with current customers, only to sell more of the established Horizon One products and services. (It’s the equivalent of what happened when the sleek, black NeXT computers debuted and were prominently displayed in every Businessland store. Not many were sold, but a lot of the people who came to see them bought something else.) If salespeople are pressured to make actual Horizon Two sales, they may shift to another tactic and bundle the Horizon Two offerings with Horizon One products.
When initial sales are sluggish, the situation quickly becomes critical, because Horizon Two offerings are expected to be self-funding; their grace period expired when they graduated from corporate R&D. In reality, they can’t pay their way. Think of Horizon Two offerings as the adolescents of the business world. As they’ve matured from PowerPoint to Release 1.0, they’ve acquired all sorts of blemishes. No longer darlings with limitless potential, they aren’t indulged like the babies of the family, the Horizon Three projects. But they are still dependents. Whether or not it is explicitly acknowledged, they are subsidised by sponsors who extract resources from Horizon One operations sharing the same quarters.
That largesse dries up when Corporate calls on these resources to help meet its Horizon One commitments. Periodically, the pressure is on to route all the returns gained through ever more efficient Horizon One operations straight to the bottom line instead of using them to nurture Horizon Two projects. This, of course, is a hard-to-break cycle once it has begun. Every target met by extreme measures only increases the need to route future savings to the bottom line. Struggling to make the current quarter’s numbers, enterprises effectively bleed their Horizon Two innovations dry.
All these are forms of organisational neglect, but the problem can spill over into organisational aggression when Horizon One managers engage in resource hoarding. Compelled to make bigger and bigger numbers with offerings that are less and less differentiated, they become expert at securing the funding and personnel necessary to do so. A favourite method: Stealing from Horizon Two projects. It may be difficult for Horizon One people to commandeer resources that are explicitly dedicated to Horizon Two projects, but those projects, like their older brethren, also depend on getting their portion of various shared resources such as IT, marketing, prototype manufacturing, system testing and customer service. To a veteran Horizon One manager, any shared resource is subject to pillaging. When this happens, Horizon Two managers cry foul, and occasionally Horizon One must own up to the theft. The excuse — “We just borrowed it to make the quarter, after which we returned it” — is often accepted. Given the delicate state of Horizon Two ventures, however, this is equivalent to borrowing some yolk from an incubating egg.
The flywheel effect:
For all the reasons discussed, a Horizon Two offering has a hard time getting established in an organisation. Like a child attempting to hop on a merry-go-round in motion, it needs a burst of energy to get on board and even then is resented for the initial drag it creates.
In fact, the momentum of an efficiently run, mature business is much like that of a flywheel. Picture a potter’s wheel, rotating smoothly despite irregular pumps of the potter’s foot. In the same way, a business is powered by surges of energy, usually in the form of productivity enhancements, but turns them into a steady output. As the business matures and markets commoditise, this flywheel must become increasingly efficient at maintaining velocity. Allocation of resources becomes extremely disciplined, least revenues and earnings suffer. Part of that discipline is the routine slapping away of Horizon Two offerings that threaten the steady consumption of deployment resources.
Horizon Two projects fail to be embraced because they cannot deliver the level returns of Horizon One, but are nevertheless held to the same yardstick. All companies have their established ways of assessing performance. Many have also devised their own methods of gauging whether research and development projects are progressing as hoped. Unfortunately, few have found a way to measure Horizon Two efforts that take into account their particular challenges. Instead, companies compare these projects either with those of Horizon One (which are much more reliable and lucrative) or with those of Horizon Three (which are much more inspiring). Regardless of which standard Horizon Two offerings are held to, they fall short, and whatever organisation is sponsoring them is found wanting. Such has been the fate of every pen-based tablet computer ever launched.
Thus the advantages of in-house innovations at asset-rich corporations — access to mainstream customers, friendly capital, and a mature supply chain — turn out for the most part to be illusory. Innovations are better off in bootstrapped start-ups, because at least there they can get access to the market and suppliers, and their investors will use fairer standards of measurement. It should be no surprise that internet telephony languished at AT&T and thrived at Skype.
If anything could make the situation worse, it would be a talent deficit. And sadly, that is inevitable. Call it Horizon Two avoidance. Seeing how Horizon Two efforts fare, most sensible employees stick with the battle zone of Horizon One or the playground of Horizon Three. In either case, they are taken care of. Horizon Two teams, though, are often summarily dismissed. Such outcomes lead to a form of risk avoidance one might call the ‘Dilbertisation’ of maturing enterprises, a downward slide that makes regaining the summit of performance nearly impossible.
Emerging best practice: The Rules of the Road:
This litany of dysfunctions is so prevalent in established enterprises that one wonders how any of them endure. But for many companies, the situation seems not so dire. For one thing, a flywheel’s inertial momentum can be astonishingly powerful, able to carry enterprises that do not innovate for decades if need be, as a number of US airlines and automobile companies have demonstrated. For another, when such momentum is managed thoughtfully and nourished with incremental innovations, it can stave off the effects of commoditisation’s for a remarkably long time, as we have seen in hypermature sectors like wholesale distribution, transportation and logistics, grocery and hospitality.
Once a sector has been disrupted, however, such cozy dynamics disappear. Today, in addition to technology companies, enterprises in the financial services, telecommunications, general merchandise retailing, health care, entertainment and media industries are all under enormous pressure to innovate or else become marginalised. As a result, they are scrambling to break through the choke point of Horizon Two. One of the most successful companies in meeting this challenge is Cisco Systems. Its recent actions suggest a set of “rules of the road,” outlined below.
Isolate and insulate Horizon Two from Horizon One:
When Cisco CEO John Chambers realised that his greatest growth opportunities were in developing economies, he saw they would not get the attention they needed from standard geographic sales coverage (Americas, EMEA, Asia-Pacific). So he created a new territory with 138 countries across all 24 time zones, managed by a single sales executive. That executive, Paul Mountford, has separated out a dozen or so of the less-developed markets for Horizon Two treatment and designated the remainder as Horizon Three for the time being. In the Horizon Two countries (many of which are asset rich, like Dubai and Azerbaijan), Cisco’s sales teams are focused on winning transformational deals with PTT directorates and ministries of the interior. Such deals require sustained executive attention at the highest levels, something that wasn’t possible when these countries were buried under their Horizon One counterparts and the best salespeople were off pursuing lower-hanging fruit.
Use acquisitions in the short-term to help fill the Horizon Two vacuum:
When the industry downturn hit, once Cisco had stopped the bleeding, it found itself with a serious Horizon Two vacuum in a number of emerging high-growth categories. The company returned to growth by acquiring Andiamo Systems to anchor its entry into storage area networks, Linksys and Airespace to attack the wireless network market, along with a host of software companies to gain ground in the security market. Chambers then called out several advanced technologies as billion-dollar opportunities for the middle-term — including the three areas mentioned above plus voice over internet protocol (VoIP), where Cisco was leveraging some earlier acquisitions — to give them higher visibility both internally and with investors. This higher visibility secured the access to resources needed to drive growth, resources that otherwise would have been drawn to the more revenue-rich and margin-rich router and switch opportunities. Thus, for example, even when Cisco’s storage area networks business brought in well under US$100 million in revenues, Chambers consistently reported on its progress in his quarterly analyst calls.
For the long-term, incubate businesses, not products:
To maximise returns, enterprises must also grow Horizon Two candidates in-house, moving them from Horizon Three. Here, Chambers, working with head of product development Charlie Giancarlo, has made another organisational realignment, forming the Emerging Markets Technology Group under Marthin DeBeer. From the outside this resembles every other corporate venturing group sponsoring “intrapreneurship”, but a closer look reveals a key difference in mission. Chambers has challenged DeBeer to generate new businesses, not new products. He knows the latter will get lost in the bottom of salespeople’s bags. And DeBeer, for his part, is building those businesses with Horizon Two-oriented entrepreneurs, not Horizon Three-oriented R&D wizards. DeBeer has called for each unit to focus the early market development of its disruptive innovation on a single high-value segment, to reduce the initial set of product requirements and accelerate its time to adoption. Such an approach prevents fledgling enterprises from being crushed by the weight of worldwide deployments, a lesson Cisco learned painfully with its early VoIP efforts.
Adapt “crossing the chasm” thinking to working inside a major enterprise:
For some time the venture community has known the fastest way to grow a disruptive innovation into something really profitable, is to focus on dominating a niche market where the new technology solves a mission-critical problem. Companies routinely go from $5 million to $50 million in revenues and build strong brands by being a big fish in a small pond. It’s the strategy needed to cross the chasm between innovation-loving early adopters and the risk-averse mass market.
Established enterprises, however, cannot afford to be so precise in their focus. The challenge of achieving growth atop an already huge revenue base requires them to operate on a grander scale, and all their processes, metrics, and targets reflect this fact. But these norms are toxic to Horizon Two ventures, so it is critical to negotiate exceptions to all of them for the duration of the Horizon Two timeline. In this context Cisco is currently considering or experimenting with a host of options, including such radical notions as not putting Horizon Two products on the price list, putting all of them on new-product hold, not compensating the general sales force for orders sold outside the target market, not requiring divisions to use Cisco’s standard suppliers or contracts, and not separating out consultative field-based support services from transactional factory-based support services (that is, recognising that the one form of customer hand-holding can be hard to distinguish from the other in an early-stage product). Of course, all these “exceptions” would be standard operating procedure for crossing the chasm in a start-up. It’s just that managing Horizon Two ventures in an established enterprise is more like trying to cross the chasm inside the belly of a whale.
Focus on leaders, not funding:
The scarcest Horizon Two resource is a leader who understands entrepreneurial deployment and knows how to build a business to a level where existing operations can take it over.
While many companies are generous with their funding and give their less-established units a more than adequate head count, they are stingy with their experienced, make-it-happen leaders. These people inevitably get assigned to the high-revenue opportunities, leaving the adolescent projects to fend for themselves. This normally results in a series of false starts that ultimately lead the executive team to abandon the effort in disgust. There is no substitute for assigning your best people to Horizon Two challenges, and that is precisely what Cisco has done with choices like Mountford and DeBeer. These are full-time commitments in which success is measured primarily by growth coming from a timely and effective entry into a hot market category. The company has made the position one that a seasoned manager will relish, not avoid.
Each company must decide what and how many resources it wants to invest in each of the three horizons. Once that portfolio allocation is determined, management must address the resource hoarding and poaching problems that disrupt developing Horizon Two businesses. The worst thing you can do to a Horizon Two venture is to be fickle in your commitments. So it is critical to determine up front which leaders and how much funding you want to devote to it — and then stick to that resolution. When enterprises that focus primarily on making their numbers organise Horizon Two efforts inside Horizon One businesses, they tacitly give people permission to rob Horizon Two to meet Horizon One goals, thereby initiating a downward spiral into franchise dissolution.
Broadly speaking, what Cisco is doing through these various moves is attempting to assemble a best practice where one has been sorely lacking. Large enterprises excel in Horizon One operations and also perform effectively in Horizon Three. They fail when it comes to Horizon Two, largely because the market development and organisational management demands of fledgling enterprises don’t match up with established corporate norms.
The advice can be summed up quickly. A Horizon Two effort must be organised in such a way that its core functions are insulated and isolated until it can produce material revenues (which, depending on the size of the company, could be anywhere from $50 million to $100 million). During this adolescent phase, such projects require customised processes, metrics and performance targets. They also require experienced entrepreneurial leaders who can navigate both the uncharted waters of emerging markets and the highly charted channels for getting things done inside the corporation.
Finally, the CEO should call out Horizon Two ventures specifically to give them board-level visibility. At regular intervals, their progress should be measured and communicated not in terms of revenues or global market share, but in terms of niche-market metrics such as customer-acquisition velocity and fish-to-pond ratio within the targeted segments.
Do this, and over time you will find you have effectively managed for the long-term. The key, it turns out, is to focus intensely on the Horizon Two challenge. Only then will your Horizon Three investments live to support you in Horizon One. Harvard Business ReviewRussell Turner, chief information officer, MetService NZ, explains why he chose this article from the Harvard Business Review. “This topic resonates with IT groups and business product development teams alike. IT frequently has a clear view of their long-term IT architectural aspirations, but suffer from short-term pressures that hamper the execution. Similarly, with product portfolios, the business overall often has no shortage of good and innovative ideas, but far fewer good and innovative implementations of those good ideas. The result can be that ideas remain as aspirations in both cases.”
This section is kindly sponsored by CDP.
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