The New Profit Imperative in Manufacturing
by Richard Wise and Peter Baumgartner
Now that providing E 1990s have been a great and fully one-third have seen the value of 1 time to be in husiness- untheir stocks decline. less, that is, you happen to be a services is more But if most manufacturers have flounmanufacturer. Despite the long dered, a few have prospered, posting lucrative than economic expansion - and despite healthy growth in revenues, profits, their own rigorous focus on improvmaking products, and shareholder value. The thriving ing productivity and quality-most companies are a diverse lot, rangthe old foundations large manufacturers have struggled ing from Honeywell and General during the past decade. Titans with Electric to Nokia and Coca-Cola, for success in household names like Whirlpool, Texas but they've all taken a similar Instruments, Polaroid, and Bausch & manufacturing are route to success; they've gone Lomb have achieved little, if any, profit downstream, toward the cusgrowth. And they have plenty of com- crumbling. Smart tomer. While they've built on pany. Stock valuations throughout the their core manufacturing eapamanufacturers are manufacturing sector have heen dorbilities, they've moved beyond mant, while the markets in general the factory gate to tap into the creating new business have soared. Only one in eight of the valuable economic activity that models to capture 1,000 largest manufacturers has outoccurs throughout the entire performed the S&P 500 since 1988, product life cycle. profits at the customer's end of the value chain.
HARVARD BUSINESS REVIEW
THE NEW PROFIT IMPERATIVE IN MANUFACTURING
Because manufacturers have an intimate knowledge of their products and markets, they are well positioned to carry out many downstream activities, from providing financing and maintenance to supplying spare parts and consumables. Exploiting the downstream opportunities, though, requires a new way of thinking about strategy. Ever since the hirth of the modern industrial corporation in the 1920s, manufacturing strategy has been built on three foundations: the vertical integration of supply and production activities to control the cost and maintain the predictability of raw materials and other inputs; Weak product demand and the growing installed base disciplined research toa create superior products; and dominant market position to prohave pushed value downstream from manufacturing. vide economies of scale. With these in place, manufacturers could be assured of share has declined by ten percentage points, to just a durable cost advantage, steady revenue growth, 17%. Less publicized are the similar shifts that are and substantial scale barriers to competition. The transforming individual product markets. In many usual reward was double-digit margins and returns manufacturing sectors, revenues from downstream on capital. activities now represent ten to 30 times the annual dollar volume of the underlying product sales. But those foundations aren't much help to organizations seeking downstream, service-based advanIn corporate computing, for example, the average tages. To capture value downstream, manufacturers company spends only about one-fifth of its annual personal-computer budget on purchasing the boxes need to expand their definition of the value chain, shift their focus from operational excellence to cusRichard Wise and Peter Baumgartner are vice presidents tomer allegiance, and rethink the meaning of vertiof Mercer Management Consulting based in Boston and cal integration. Munich, respectively. Redefining the Value Chain. Manufacturers tend to view downstream services as a necessary evilTo discuss this article, join HBR's authors and readers in something to give customers in order to clinch a the HBR Forum at www.hbr.org/forum. 134
HARVARD BUSINESS REVIEW September-October 1999
Smart manufacturers are moving downstream for a very simple...