Innovation is often top of mind for organizational leaders who are striving to spur the growth of their enterprise. The circumstances that spark this focus typically include a lofty growth target, a high level of shareholder expectations, and recognition that the current product pipeline is not big enough to close the gap between existing forecasts and the goal.
But there is another characteristic shared among organizations that concentrate on innovation—these businesses are typically financially healthy. As obvious as it sounds, this financial fitness is what enables an organization to devote resources to new growth rather than dedicating all hands to reviving the core business.
So what happens when an aggressive competitor decides to gain market share by lowering prices? Under this kind of threat to the core business, the mind of the organizational leader must shift to reassess the company’s strategy.
At first, questions are raised about how to boost volume, then how to improve productivity. Before too long, however, those two frightening words are spoken—CUT COSTS—words that send shivers through the ranks from the supervisory staff to the warehouse floor. The last thing any leader wants to do is to let employees go. So, considerable effort is often dedicated to improving operational efficiency and removing unnecessary costs.
However, in many situations, these measures are not enough. Ultimately, companies are often faced with the realization that their good or service simply includes benefits that are too costly to provide at a price that the market will tolerate. So teams are assembled to strip away costs.
In a manufacturing setting, this may mean reducing the quality of materials, re-evaluating the design of key systems, or simply stripping away features and functionality. In a services environment this could mean cutting back on the benefits offered, when they are available, or how convenient they are.
Identifying these cost-saving opportunities is difficult, especially if you do not take a process approach, such as we are advocating.
Without a process you risk taking away too much and losing customers, or not taking away enough and losing profits. Neither scenario is appealing. All too often, the trade-offs customers are willing to make are not well understood. As a result, the very steps an organization may take to improve its bottom line may undermine its reputation and demand in the market.
To address this problem, we can look back to our innovation toolkit. A core concept, the customer’s jobs-to-be-done, is critical in understanding which benefits are important and which are not. Remembering that quality is relative and that we must balance what a customer gives up and what a customer gets are routine steps we would typically apply to capture a new-growth opportunity.
When we are forced to re-evaluate what an existing product or service provides to the market, we must not forget these concepts. They can guide our success in removing costly features and benefits without harming demand.
The traditional approach to cost reduction
Companies faced with the need to reduce costs are oft en caught off – guard. Unfortunately, many organizations really don’t know which features (and associated benefits) can be removed without impacting the customer’s perception of their offering, especially since the commonly adopted sustaining trajectory of innovation leads to the addition of features year after year.
Efforts to strip costs can be less than well-informed and the results far from effective. Companies will tend to look at the gap between their current price and that of their competitor’s offering, adjust for any premium that they feel they can command (which could be why their price might be higher in the first place), and define a cost-reduction target that will allow them to lower their price and retain profitability (see Figure 1 above).
The product or service manager and team are then typically charged with identifying ways to remove the prescribed amount of cost from the offering. The team starts brainstorming, suggesting areas where material quality can be reduced, which features can be removed (ironically oft en those just introduced last year), or in what ways functionality can be limited.
Then, almost without fail, the ideas are sorted and prioritized, guided by misconceptions of what drives value. After some debate, the low-hanging fruit is selected, picking ideas that miraculously add up to almost exactly the cost reduction target. When the target is reached, the effort is stopped, congratulatory comments are exchanged, and everyone breathes a sigh of relief.
This approach is quite literally backwards, and simply postpones the inevitable wave of cost reductions that will come when the competitor releases their next product variant. What is needed is a different approach—an approach that leverages the core tools and concepts of successful innovation.
Using innovation tools to intelligently defeature
Rather than trying to reduce the quality or features of the original offering in a piecemeal fashion to achieve a defined cost-reduction target, companies faced with a cost-reduction challenge should undertake this defeaturing effort while still adhering to the core innovation concepts—jobs-to-be done, gives and gets, good enough, and quality is relative.
- Establish the minimum cost to participate in the category
- Define the required profit per sale
- Understand the competitive offering
- Prioritize features and benefits according to the core innovation concepts
- Shape an offering that can be delivered to market at an attractive price
To get a better understanding of this methodology, let’s examine each step in the process by looking at the case of a global manufacturer of work utility vehicles that was forced to fend off the aggressive pricing moves of a low-cost competitor
in one of its core markets.
The incumbent manufacturer offered a utility vehicle to the higher-end consumer at a price point around $25,600, and faced a competitor producing a comparable product (in features that mattered) priced at $21,500.
Step 1: Establish the minimum cost to participate in the category
Any given product or service offering must address the “qualifying jobs” of the customer (“If it can’t do x, y, and z, I won’t even consider it”). Insight into these qualifying jobs can be gained by examining whatever limited set of benefits is provided by the lowest-priced, successful competitor.
This good-enough version of the product helps to define the “cost to participate,” even if only at the lower end of the market. Note that the lowest-priced successful competitor may not in fact be offering the least amount of benefit possible; however, their offering will demonstrate the lowest set of benefits for which demand is validated.
In the case of the work utility vehicle manufacturer example, at a high level a machine wouldn’t qualify as a competitive “utility vehicle” unless it had an engine of at least 45 horsepower, a chassis with a 7-year design life, a manual transmission, and the ability to mount or tow a variety of useful accessories.
Delivery of each of these features or benefits has both a variable and a fixed-cost component. The variable cost is usually relatively straightforward and of course can be affected by things like pricing agreements with suppliers. The fixed cost comprises the amount of overhead that must be allocated to each sale. Tallying up these costs provides you with the starting price, or the price below which you would lose money. For the utility vehicle maker, let’s assume that this was about $16,200 per unit.
Step 2: Define your requisite profit per sale
On top of the minimum price, we must also add the requisite profit per sale to achieve the company’s financial goals. While we would all like to make large profits, there are acceptable norms in any industry.
A good starting point would be a number that makes your investors happy and is also likely to be tolerated by the market. The sum of the cost of the minimum offering and the requisite profit per sale establishes the floor on price. The utility vehicle manufacturer wanted to hold to a profit of about $5,000 per unit, so their price floor was $21,200 per unit.
Step 3: Understand the competitive offering(s)
The next step is to understand the price-value position of the lowest-priced, successful competitor. These are all the ways in which the product satisfies the customer’s jobs-to-be-done, and may include straightforward functional benefits, as well as social (e.g., brand image, association with status) and emotional benefits (e.g., value proposition that encourages the perception of a “good deal”).
Going back to the utility-vehicle example, the prime competitor operating disruptively in the lower end of the market offered 45 horsepower (the lowest in its class), a manual transmission, a simple yet versatile accessory mount, and a chassis with a 5-year design life. This product also offered intangible benefits, such as the perception that its design was so simple users could maintain it themselves, inferring long-term cost savings.Insight into qualifying jobs can be gained by examining the limited set of benefits that is provided by the lowest-priced, successful competitor.Beyond these primary attributes, the competitor’s vehicle also offered very simple lights for night use, a nondescript body and cowl design, stiff , relatively uncomfortable seats, and was generally comprised of parts made in the simplest and least expensive way possible.
In contrast, the incumbent utility vehicle incorporated a host of technological advances and creature comforts: An electronically controlled 45 horsepower engine to maximize pulling torque, an automatic transmission, dashboard control of the attachment mount, and soft adjustable seats, as well as other design elements such as heavy duty all-weather wiring throughout the vehicle, molded multi-element body panels for a curved design, and extra-stiff welded steps to help an operator climb in and out of the vehicle. All of these features were viewed by the incumbent as key differentiating benefits.
Step 4: Prioritize features and benefits using core innovation concepts
There were significant differences of opinion among the incumbent’s engineering personnel, brand manager, and sales team as to which features should stay and which should go. Some felt that they should look for the quickest and easiest ways to remove cost, so that they could get a competitive Offering into the market as quickly as possible. One such feature candidate was the vehicle’s welded step, which could be replaced easily with a lower-cost component.
Others felt that the company could not compromise on their view of quality and that stripping out cost by removing such features as the all-weather wiring would destroy the company’s reputation, as vehicle failures cropped up over time.
Still others attested to the critical competitive merits of other attributes of the vehicle such as the electronic engine controls, all the while simultaneously declaring that the price must come down.
Typically, this kind of debate results in the retention of features that matter more to the company than the users, and removal of features that are easy to take away, yet differentiating in the eyes of the consumers.
Working through this dilemma using the framework provided by the core innovation concepts of jobs-to-be-done, gives and gets, good enough, and quality is relative allows opportunities for cost reduction to be uncovered and for prioritization of those “nice to have” benefits that allow a provider to satisfy differentiating jobs as well as to capture a premium for their offering.
For the utility vehicle maker, a series of quick focus group activities and very targeted surveys revealed that the company’s “prized” electronic engine control system, while indeed unique, really only made a difference when the vehicle was pushed to its limits—an event that was rare and, in the eyes of the customer, really not worth extra cost. As it turned out, “provide extra torque under extreme circumstances” was a fairly unimportant job, and a traditional engine without electronic controls was “good enough.” So, here was an opportunity to remove cost on an overshot dimension.
Customer feedback also indicated that the automatic transmission was definitely worth paying for. Other input indicated that while it would indeed be easy to change out the operator step on the vehicle, the bulky, strong appearance of the step was frequently perceived to be a sign of quality (even though it was technically no stronger than a bent metal design). Shifting to a lower-cost, bent-steel component would have immediate adverse consequences in the eyes of the buyer. Here an emotional job won out over the functional job in the consumer’s mind.
In contrast, much of the wiring system of the vehicle was well out of the elements during routine vehicle operation, and most consumers did not even know that the system made use of robust all-weather wire connections. Clearly, this attribute did not drive any differentiated benefit.In the end, the goal is to prioritize solutions to the most important and unsatisfied jobs that can be offered at price points the buyer is willing to pay.Exploring customer-derived insights feature-by-feature forced respondents to make clear their trade-offs and provided deep insights. Questions to ask here would be: What are the “must-have” benefits and quality standards? Which are tangential to the job the customer is trying to get done?
Step 5: Shape an offering that can be delivered to market at an attractive price
Viewed through the lens of the customer’s jobs-to-be-done, perception of quality, and willingness to make trade-offs, customer preferences can be used to create a prioritized list of features or benefits whose inclusion will bring the base offering up to a well-balanced, differentiated solution to an important, unsatisfied job-to-be-done.
Each benefit should be examined individually to determine exactly how much it will cost to deliver and how much profit can be commanded. Once the fully loaded cost of providing each benefit is defined, additional market insight should be gained to determine the customer’s willingness to pay the cost plus markup required to deliver each feature profitably.
In the end, the goal is to prioritize solutions for the most important and unsatisfied jobs that can be offered at price points the buyer is willing to pay. Effectively, you should build on the minimum cost to play and then add-in the highest priority features until you can no longer add benefits without making the price uncompetitive.
Rather than view this kind of scenario as an infringement on the design principles of the company, it should be viewed as an opportunity to drive innovation. Aft er all, ideally a company would pursue this approach in the original design stage for a new offering. However, if this were the case, they probably would not be struggling with a need to reduce costs related to overshot or misaligned products.
The foundation of disruptive innovation rests on just such shifts from better to different, from complex to simple, or from the next generation to the good-enough. Successfully executing these shifts requires knowledge of where customers are willing to make trade-offs, and where superior performance must be maintained.
Thus, the ideal approach outlined above can and must often be implemented as a prioritization exercise for intelligently defeaturing an existing product or service.
Joe Sinfield is a Senior Partner at Innosight and is also a tenured Associate Professor of Civil Engineering at Purdue University.