Its response — major cost reductions through increased Asian sourcing and painful cuts to overhead — seemed appropriately dramatic. But even that wasn’t enough. The company’s Chinese competitors made products of comparable quality for 15 to 20 percent less, leaving it with a stark and fundamental choice: to move closer to their cost structure, to find and exploit innovations they couldn’t copy immediately, or to exit the industry.
A Broader Trend
U.S. macroeconomic data suggest that such anecdotes are part of a broader trend. Exhibit 3 (“A Fundamental Shift“) shows that as productivity increased, inflation fell steadily during each period of economic expansion during the past 30 years. The effect of these trends has been most dramatic in manufacturing, where globalization and technology have also had their greatest direct impact. In the 1990s, however, the productivity gains spread to the services sector.
Supply-side growth and its accompanying turbulence will continue and even accelerate over the next 10 to 20 years. After all, the world economy is nowhere near the end of the line in the search for new disruptive technologies and for low-cost, high-talent labor to generate new products, higher productivity, or both. China now accounts for a relatively small part of the global supply base. Our analysis of the country’s role in ten significant industrial segments indicates that Chinese exports represent about 5 percent of total global production. While these share positions may not seem significant, the trajectory is: more than half of this share has been won during the past five years. Consider too the still unexploited opportunities for outsourcing to the developing world and the impact their eventual exploitation will have on costs and productivity. The transition to the new regime is reflected, to some extent, in the rising price of inputs such as steel as China’s economy grows.
Zones of Extreme Competition
Extreme competition comes in three flavors (see Exhibit 4). The first is traditional “trench warfare,” common in mature, undifferentiated industries when demand is shrinking or can’t keep pace with rapid growth in supply. Either way, the result is shrinking profits caused by intensifying competition but few changes among the market leaders.
The second flavor — “judo competition” — is just the opposite: the overall industry pie grows, but the scoreboard is constantly changing. Companies on top often win big but face the perpetual risk that smaller or more nimble attackers will topple them using product innovation or new business models that compensate for a lack of scale or scope. Many newer industries, such as software, fall in this category. So do older trend-based industries, like restaurants and branded apparel.
Finally, “white-knuckle competition” combines the worst of both worlds: a shrinking industry pie and high churn on the industry scoreboard. Our analysis of industry leaders and rising topple rates suggests that many industries are migrating north along the vertical axis of the matrix of Exhibit 4. There is also an “eastward” pull toward the white-knuckle quadrant as a result of several supply-side forces, notably major innovations that spill over and disrupt adjacent industries. The telecom industry is a good example. The growth of wireless telephony, the rise of broadband, and the advent of VoIP (Voice over Internet Protocol) are forcing companies to rethink their business boundaries. As telecom service providers know all too well, their traditional wireline businesses can only shrink as competitive offers gain ground. Growth calls for a broader set of offers, including wireless, broadband, and even entertainment. Such a redefinition brings with it major investments, new competitors — and considerable uncertainty. Risks to the industry’s performance and to the market positions of specific competitors rise alarmingly.