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How sure are CEOs that their current growth strategy will achieve a competitive advantage and sustainable value over the next two to three years?
In this article, we look at how to understand a company’s true competitive position, how technology is rapidly making current market assumptions outdated and how companies can use market context to drive sustainable growth.
A market context analysis (such as EY-Parthenon’s Full Potential Paradigm framework) provides a view of the company’s unique position in scale and profitability compared with its competitors, any adjacent segments and new market entrants. Given today’s competitive dynamics, correctly determining market context is difficult. Properly done, though, it largely answers the following critical questions:
By answering these questions, you can determine from where growth will likely emanate, and which M&A targets should be pursued to deliver long-term value.
How EY-Parthenon can Help
EY-Parthenon professionals recognize that CEOs and business leaders are tasked with achieving maximum value for their organizations’ stakeholders in this transformative age. We challenge assumptions to design and deliver strategies that help improve profitability and long-term value.
Read moreDefining market context is part science and part art. It starts with an analysis of how your business is defined, taking into consideration the industry’s dynamics.
It is important not to rely on conventional definitions of your industry, but instead, take a more analytical approach. Utilize the four C’s: customers, costs, capabilities and competition. But analyze them through the lens of innovation and understand the disruptive drivers, such as technology. This not only increases the complexity but will also help develop a more useful view of your company and its competitors.
Three areas of technology innovation affecting the four C’s are:
Understanding how these technologies affect customers, costs, capabilities and competition in your industry makes it possible to better understand your competitive situation. This helps you evaluate what you need to do to gain a competitive advantage that delivers growth.
Once the market context is set and you have defined your own business and competitive positioning, the next step in the FPP construct is to calculate the relative market share (RMS), one of the best predictors of long-term growth and profit potential. RMS growth drives actual profitability. It is certainly more complex in calculation than standard market share (SMS) because it indexes the end market sales of a company’s competitive set through a geometric mean calculation.1
RMS provides additional insight into the competitive market that SMS lacks. Why is this so important? A growth strategy that is solely focused on increasing revenue is not sustainable. For a properly defined business (based on the market context analysis), profitability is driven by RMS. Companies with high RMS should, with all else being equal, earn more than those with lower RMS. This, in fact, debunks the notion that companies may be “too big to grow.” A high RMS does not limit revenue growth.
To visualize the power of RMS in setting a growth strategy, a diagnostic from our FPP construct is shown below. Here, we set the RMS against the adjusted return on sales (AROS) to help clients establish growth goals around defined margin targets. In addition, we evaluate specific M&A opportunities to reach these goals.
The Normative Band Diagnostic shows the relationship between which company has the strongest competitive position in the market on the x-axis (the RMS calculation) vs. how they are performing from a profitability perspective on the y-axis (adjusted return on sales - AROS). For each industry, there is a unique normative band sloping up across the chart with a lower band of 20th percentile performance and an upper band of 80th percentile performance.
Using this normative band, companies can determine if profitability is on track (at the 80th percentile, e.g., Company A), outperforming (above the 80th percentile, e.g., Company B), underperforming (below the 80th percentile but above the 20th percentile, e.g., Company C) or a potential candidate to exit the industry (below the 20th percentile, e.g., Company D).
The above chart illustrates the multiple options a company can perceive to improve its market position. Company A can move up and gain more profitability or it can move to the right to achieve a greater relative market share, which should allow a later conversion to higher profitability. Using this type of analysis, a company can evaluate which levers it can pull to affect profitability, including M&A. If M&A is the chosen route, it can then better evaluate to what extent specific M&A opportunities meet the deal rationale needed to drive a company’s competitive advantage and deliver profitable growth and long-term value.
The above chart looks at a sample industry and the companies within it. Each company has a unique perspective and, therefore, a unique set of options it can pursue to achieve profitable growth.
It is essential for executives to determine where their own company fits on the normative band in relation to its competitors in order to make thoughtful strategic growth decisions.
With disruption front and center across most industries, it is difficult to pinpoint growth goals with confidence. Organic growth, while an important factor, is often not enough to make a timely and significant business impact. M&A is required to help make up the difference. Understanding market context is critical in evaluating where market power lies in your industry, and how that impacts your business and acquisition opportunities to deliver long-term, profitable growth.
In today’s world of accelerating disruption, many companies are setting their strategy against a flawed view of the industry and markets in which they compete. In this article, we look at how to understand a company’s true competitive position, how technology is rapidly making current market assumptions outdated and how companies can use a market context to drive sustainable growth through M&A.
