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Can Continuous Improvement Protect Your Economic Moat?

November 9, 2016

The term, “economic moat” was coined by Warren Buffett. Morningstar have taken this term and developed an economic moat assessment to help it rate companies. Their definition is: In a free-market economy, capital seeks the areas of highest return. Whenever a company develops a profitable product or service, it doesn’t take long before competitive forces drive down its economic profits. Only companies with an economic moat—a structural competitive advantage that allows a firm to earn above-average returns on capital over a long period of time—are able to hold competitors at bay.

 

At SBTI we assert the economic moat is a myth for most companies and sustainable economic advantage rarely exists.

 

This is not the age of defensive castles, moats and armor.  It is rather an age of cunning speed and surprise.

Hypercompetition: Managing the Dynamics of Strategic Manouevering

In helping our clients drive change we usually find some level of continuous improvement (CI) activity. The question is whether that talent and capability can rise to the speed of change.

 

What we have found in working with over 750 companies is:

  • Most continuous improvement activity is disconnected from the strategic imperative.
  • The majority of executives are frustrated they are not getting a better return from their investment in CI
  • CI leaders point to savings and growth activities but the numbers don’t appear in the financial statements and therefore are not driving higher returns on capital.

 

Here is a key litmus test attributed to Jack Welch:

When the rate of change outside exceeds the rate of change inside, the end is in sight.

I had the pleasure of meeting a highly talented CI professional on a Master Black Belt course. His key project was to reduce the time responding to customer complaints. Even he recognized the more critical project was to examine and eliminate the root cause of complaints in the first place. He raised this with his manager and was told, “that’s not our department”. No link between revenues and improvement there.

 

I worked with a tier 1 automotive supplier who wanted to launch a major CI program. Trained lots of belts and sensei. Shareholder value creation was being impeded by product recalls and warranty claims.

 

Where were these belts focused?–on cutting costs in their own manufacturing plants. The cost reduction bogey was far less than the balance sheet bogey. To move the dial on warranty requires high inbound quality. Yet not one project was focused on a joint improvements with their suppliers. They operated under the misguided premise that if the belts found savings greater than their salary and benefits it was a win.

 

I’ve seen entire CI departments expunged. An activist investor forced his way onto the board of a Fortune 500 company. Ousted the CEO. Then looked at rapid improvement options (always cost reduction in an emergency).

 

Guess what? One of the biggest costs was the CI Department. Gone. Summarily dismissed because there was no obvious linkage between their activities and shareholder value creation.

 

Now I may seem anti CI. I’m not. What I am against is the woeful misuse of this talent.

 

At SBTI we tie continuous improvement results to the ultimate scorecard of the financial statements.

 

If you are looking for higher revenues, greater profitability or more predictable and healthier cash flows you can connect with me at:

mholly@sbtimail.com or call me on 704-904-0994.

 

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