Harvard Business Review Assessment
1)Blue Ocean Strategy, Chapter six, Get the Strategic Sequence Right
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C H A P T E R 6
Get the Strategic
Sequence Right
YO U ’ V E L O O K E D A C R O S S PAT H S to discover possibleblue oceans. You’ve constructed a strategy canvas that
clearly articulates your future blue ocean strategy. And you have
explored how to aggregate the largest possible mass of buyers for
your idea. The next challenge is to build a robust business model to
ensure that you make a healthy profit on your blue ocean idea. This
brings us to the fourth principle of blue ocean strategy: Get the
strategic sequence right.
This chapter discusses the strategic sequence of fleshing out and
validating blue ocean ideas to ensure their commercial viability.
With an understanding of the right strategic sequence and of how
to assess blue ocean ideas along the key criteria in that sequence,
you dramatically reduce business model risk.
The Right Strategic Sequence
As shown in figure 6-1, companies need to build their blue ocean
strategy in the sequence of buyer utility, price, cost, and adoption.
( ) ( ) ( ) ( )
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The starting point is buyer utility. Does your offering unlock ex-
ceptional utility? Is there a compelling reason for the mass of peo-
ple to buy it? Absent this, there is no blue ocean potential to begin
with. Here there are only two options. Park the idea, or rethink it
until you reach an affirmative answer.
118 F O R M U L A T I N G B L U E O C E A N S T R A T E G Y
F I G U R E 6-1
The Sequence of Blue Ocean Strategy
Buyer utility
Is there exceptional buyer utility
in your business idea
?
Price
Is your price easily accessible
to the mass of buyers?
Cost
Can you attain your cost target
to profit at your strategic pric
e?
Adoption
What are the adoption hurdles in
actualizing your business idea?
Are you addressing them up front?
A Commercially
Viable
Blue Ocean Idea
Yes
No—Rethink
Yes
Yes
Yes
No—Rethink
No—Rethink
No—Rethink
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When you clear the exceptional utility bar, you advance to the
second step: setting the right strategic price. Remember, a company
does not want to rely solely on price to create demand. The key
question here is this: Is your offering priced to attract the mass of
target buyers so that they have a compelling ability to pay for your
offering? If it is not, they cannot buy it. Nor will the offering create
irresistible market buzz.
These first two steps address the revenue side of a company’s
business model. They ensure that you create a leap in net buyer
value, where net buyer value equals the utility buyers receive minus
the price they pay for it.
Securing the profit side brings us to the third element: cost. Can
you produce your offering at the target cost and still earn a healthy
profit margin? Can you profit at the strategic price—the price
easily accessible to the mass of target buyers? You should not let
costs drive prices. Nor should you scale down utility because high
costs block your ability to profit at the strategic price. When the
target cost cannot be met, you must either forgo the idea because
the blue ocean won’t be profitable, or you must innovate your
business model to hit the target cost. The cost side of a company’s
business model ensures that it creates a leap in value for itself in
the form of profit—that is, the price of the offering minus the cost
of production. It is the combination of exceptional utility, strategic
pricing, and target costing that allows companies to achieve value
innovation—a leap in value for both buyers and companies.
The last step is to address adoption hurdles. What are the adop-
tion hurdles in rolling out your idea? Have you addressed these up
front? The formulation of blue ocean strategy is complete only
when you can address adoption hurdles in the beginning to ensure
the successful actualization of your idea. Adoption hurdles include,
for example, potential resistance to the idea by retailers or part-
ners. Because blue ocean strategies represent a significant depar-
ture from red oceans, it is key to address adoption hurdles up front.
How can you assess whether your blue ocean strategy is passing
through each of the four sequential steps? And how can you refine
Get the Strategic Sequence Right 119
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your idea to pass each bar? Let’s address these questions, starting
with utility.
Testing for Exceptional Utility
The need to assess the buyer utility of your offering may seem self-
evident. Yet many companies fail to deliver exceptional value be-
cause they are obsessed by the novelty of their product or service,
especially if new technology plays a part in it.
Consider Philips’ CD-i, an engineering marvel that failed to offer
people a compelling reason to buy it. The player was promoted as
the “Imagination Machine” because of its diverse functions. CD-i
was a video machine, music system, game player, and teaching too
l
all wrapped into one. Yet it did so many different tasks that people
could not understand how to use it. In addition, it lacked attractive
software titles. So even though the CD-i theoretically could do al-
most anything, in reality it could do very little. Customers lacked a
compelling reason to use it, and sales never took off.
Managers responsible for Philips’ CD-i (as well as Motorola’s
Iridium) fell into the same trap: They reveled in the bells and whis-
tles of their new technology. They acted on the assumption that
bleeding-edge technology is equivalent to bleeding-edge utility for
buyers—something that, our research found, is rarely the case.
The technology trap that snagged Philips and Motorola trips up
the best and brightest companies time and again. Unless the tech-
nology makes buyers’ lives dramatically simpler, more convenient,
more productive, less risky, or more fun and fashionable, it will not
attract the masses no matter how many awards it wins. Think, for
example, of Starbucks, Cirque du Soleil, The Home Depot, South-
west Airlines, [yellow tail], or Ralph Lauren: Value innovation is
not the same as technology innovation.
To get around this trap, the starting point, as articulated in
chapter 2, is to create a strategic profile that passes the initial lit-
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mus test of being focused, being divergent, and having a compelling
tagline that speaks to buyers. Having done this, companies are
ready to expressly assess where and how the new product or service
will change the lives of its buyers. Such a difference in perspective
is important because it means that the way a product or service is
developed becomes less a function of its technical possibilities and
more a function of its utility to buyers.
The buyer utility map helps managers look at this issue from the
right perspective (see figure 6-2). It outlines all the levers compa-
nies can pull to deliver exceptional utility to buyers as well as the
various experiences buyers can have with a product or service. This
map allows managers to identify the full range of utility spaces that
a product or service can potentially fill. Let’s look at the map’s di-
mensions in detail.
Get the Strategic Sequence Right 121
F I G U R E 6-2
The Buyer Utility Map
1. 2. 3. 4. 5. 6.
Purchase Delivery Use Supplements Maintenance Disposal
T
h
e
S
ix
U
ti
lit
y
L
e
ve
rs
Customer
productivity
Simplicity
Convenience
Risk
Fun and
image
Environmental
friendliness
The Six Stages of the Buyer Experience Cycle
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The Six Stages of the Buyer Experience Cycle
A buyer’s experience can usually be broken into a cycle of six
stages, running more or less sequentially from purchase to dis-
posal. Each stage encompasses a wide variety of specific experi-
ences. Purchasing, for example, may include the experience of
browsing eBay as well as the aisles of The Home Depot. At each
stage, managers can ask a set of questions to gauge the quality of
buyers’ experience, as described in figure 6-3.
The Six Utility Levers
Cutting across the stages of the buyer’s experience are what we call
utility levers: the ways in which companies can unlock exceptional
utility for buyers. Most of the levers are obvious. Simplicity, fun
and image, and environmental friendliness need little explanation.
Nor does the idea that a product might reduce a customer’s finan-
cial, physical, or credibility risks. And a product or service offers
convenience simply by being easy to obtain, use, or dispose of. The
most commonly used lever is that of customer productivity, in
which an offering helps a customer do things faster or better.
To test for exceptional utility, companies should check whether
their offering has removed the greatest blocks to utility across the
entire buyer experience cycle for customers and noncustomers. The
greatest blocks to utility often represent the greatest and most
pressing opportunities to unlock exceptional value. Figure 6-4
shows how a company can identify the most compelling hot spots to
unlock exceptional utility. By locating your proposed offering on
the thirty-six spaces of the buyer utility map, you can clearly see
how, and whether, the new idea not only creates a different utility
proposition from existing offerings but also removes the biggest
blocks to utility that stand in the way of converting noncustomers
into customers. If your offering falls on the same space or spaces as
those of other players, chances are it is not a blue ocean offering.
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Consider the Ford Model T. Before its debut, the more than five
hundred automakers in the United States focused on building cus-
tom-made luxury autos for the wealthy. In terms of the buyer utility
map, the entire industry focused on image in the use phase, creat-
ing luxury cars for fashionable weekend outings. Only one of the
thirty-six utility spaces was occupied.
The greatest blocks to utility for the mass of people, however,
were not in refining the auto’s luxury or stylish image. Rather, they
had to do with two other factors. One was convenience in the use
phase. The bumpy and muddy dirt roads that prevailed at the cen-
tury’s start were a natural for horses to tread over but often pre-
vented finely crafted autos from passing. This significantly limited
where and when cars could travel (driving on rainy and snowy days
was ill advised), making the use of the car limited and inconven-
ient. The second block to utility was risk in the maintenance phase.
The cars, being finely crafted and having multiple options, often
broke down, requiring experts to fix them, and experts were expen-
sive and in short supply.
124 F O R M U L A T I N G B L U E O C E A N S T R A T E G Y
F I G U R E 6-4
Uncovering the Blocks to Buyer Utility
Purchase Delivery Use Supplements Maintenance Disposal
Customer Productivity: In which stage are the biggest blocks to customer productivity?
Simplicity: In which stage are the biggest blocks to simplicity?
Convenience: In which stage are the biggest blocks to convenience?
Risk: In which stage are the biggest blocks to reducing risks?
Fun and Image: In which stage are the biggest blocks to fun and image?
Environmental In which stage are the biggest blocks to
Friendliness: environmental friendliness?
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In one fell swoop, Ford’s Model T eliminated these two utility
blocks. The Model T was called the car for the great multitude. It
came in only one color (black) and one model, with scant options.
In this way, Ford eliminated investments in image in the use phase.
Instead of creating cars for weekends in the countryside—a luxury
few could justify—Ford’s Model T was made for everyday use. It
was reliable. It was durable; it was designed to travel effortlessly
over dirt roads and in rain, sleet, or shine. It was easy to fix and use.
People could learn to drive it in one day.
In this way the buyer utility map highlights the differences be-
tween ideas that genuinely create new and exceptional utility and
those that are essentially revisions of existing offerings or techno-
logical breakthroughs not linked to value. The aim is to check
whether your offering passes the exceptional utility test, as did the
Model T. By applying this diagnostic, you can find out how your
idea needs to be refined.
Where are the greatest blocks to utility across the buyer experi-
ence cycle for your customers and noncustomers? Does your offer-
ing effectively eliminate these blocks? If it does not, chances are
your offering is innovation for innovation’s sake or a revision of ex-
isting offerings. When a company’s offering passes this test, it is
ready to move to the next step.
From Exceptional Utility to Strategic Pricing
To secure a strong revenue stream for your offering, you must set
the right strategic price. This step ensures that buyers not only will
want to buy your offering but also will have a compelling ability to
pay for it. Many companies take a reverse course, first testing the
waters of a new product or service by targeting novelty-seeking,
price-insensitive customers at the launch of a new business idea;
only over time do they drop prices to attract mainstream buyers. It
is increasingly important, however, to know from the start what
price will quickly capture the mass of target buyers.
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There are two reasons for this change. First, companies are dis-
covering that volume generates higher returns than it used to. As
the nature of goods becomes more knowledge intensive, companies
bear much more of their costs in product development than in man-
ufacturing. This is easy to understand in the software industry.
Producing the first copy of the Windows XP operating system, for
example, cost Microsoft billions of dollars, whereas subsequent
copies involved no more than the nearly trivial cost of a CD. This
makes volume key.
A second reason is that to a buyer, the value of a product or ser-
vice may be closely tied to the total number of people using it. An
example is the online auction service managed by eBay. People will
not buy a product or service when it is used by few others. As a re-
sult of this phenomenon, called network externalities, many prod-
ucts and services are an all-or-nothing proposition: Either you sell
millions at once, or you sell nothing at all.1
In the meantime, the rise of knowledge-intensive products also
creates the potential for free riding. This relates to the nonrival
and partially excludable nature of knowledge.2 The use of a rival
good by one firm precludes its use by another. So, for example,
Nobel Prize–winning scientists who are fully employed by IBM
cannot simultaneously be employed by another company. Nor can
scrap steel consumed by Nucor be simultaneously consumed for
production by other minimill steel makers.
In contrast, the use of a nonrival good by one firm does not limit
its use by another. Ideas fall into this category. So, for example,
when Virgin Atlantic Airways launched its Upper Class brand—a
new concept in business-class travel that essentially combined the
huge seats and legroom of traditional first class with the price of
business-class tickets—other airlines were free to apply this idea to
their own business-class service without limiting Virgin’s ability to
use it. This makes competitive imitation not only possible but less
costly. The cost and risk of developing an innovative idea are borne
by the initiator, not the follower.
This challenge is exacerbated when the notion of excludability is
considered. Excludability is a function both of the nature of the
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good and of the legal system. A good is excludable if the company
can prevent others from using it because of, for example, limited ac-
cess or patent protection. Intel, for example, can exclude other mi-
croprocessor chipmakers from using its manufacturing facilities
through property ownership laws. The women’s fitness club Curves,
however, cannot exclude someone from walking into any of its cen-
ters, studying its layout, atmosphere, and exercise routine, and
mimicking its women’s fitness concept: Women need only thirty
minutes, three days a week, to get in shape while having fun with
other women, with none of the usual embarrassment faced at gyms.
The highest value-added element of the Curves formula is not ex-
cludable. Once ideas are out there, knowledge naturally spills over
to other firms.
This lack of excludability reinforces the risk of free riding. Like
the creative and explosive concepts of Curves, Starbucks, or South-
west Airlines, many of the most powerful blue ocean ideas have
tremendous value but in themselves consist of no new technologi-
cal discoveries. As a result they are neither patentable nor exclud-
able and hence are vulnerable to imitation.
All this means that the strategic price you set for your offering
must not only attract buyers in large numbers but also help you to
retain them. Given the high potential for free riding, an offering’s
reputation must be earned on day one, because brand building
increasingly relies heavily on word-of-mouth recommendations
spreading rapidly through our networked society. Companies must
therefore start with an offer that buyers can’t refuse and must keep
it that way to discourage any free-riding imitations. This is what
makes strategic pricing key. Strategic pricing addresses this ques-
tion: Is your offering priced to attract the mass of target buyers
from the start so that they have a compelling ability to pay for it?
When exceptional utility is combined with strategic pricing, imita-
tion is discouraged.
We have developed a tool called the price corridor of the mass to
help managers find the right price for an irresistible offer, which, by
the way, isn’t necessarily the lower price. The tool involves two dis-
tinct but interrelated steps (see figure 6-5).
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Step 1: Identify the Price Corridor of the Mass
In setting a price, all companies look first at the products and ser-
vices that most closely resemble their idea in terms of form. Typically
they look at other products and services within their industries.
That’s still a necessary exercise, of course, but it is not sufficient to
attract new customers. So the main challenge in determining a
strategic price is to understand the price sensitivities of those peo-
ple who will be comparing the new product or service with a host of
very different-looking products and services offered outside the
group of traditional competitors.
A good way to look outside industry boundaries is to list prod-
ucts and services that fall into two categories: those that take differ-
ent forms but perform the same function, and those that take different
forms and functions but share the same over-arching objective.
128 F O R M U L A T I N G B L U E O C E A N S T R A T E G Y
F I G U R E 6-5
The Price Corridor of the Mass
Lower-level pricing
Step 2: Specify a price level
within the price corridor.
Step 1: Identify the price
corridor of the mass.
Three alternative product/service types:
Different form
Same Different form, and function,
form same function same objective
Size of circle is proportional to number
of buyers that product/service attracts
High degree of legal and
resource protection
Difficult to imitate
Some degree of legal and
resource protection
Low degree of legal and
resource protection
Easy to imitate
Price Corridor
of the Mass
Upp
er-l
eve
l pr
icin
g
Mid-level pricing
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Different form, same function. Many companies that create blue
oceans attract customers from other industries who use a product
or service that performs the same function or bears the same core
utility as the new one but takes a very different physical form. In
the case of Ford’s Model T, Ford looked to the horse-drawn car-
riage. The horse-drawn carriage had the same core utility as the
car: transportation for individuals and families. But it had a very
different form: a live animal versus a machine. Ford effectively con-
verted the majority of noncustomers of the auto industry, namely
customers of horse-drawn carriages, into customers of its own blue
ocean by pricing its Model T against horse-drawn carriages and not
the cars of other automakers.
In the case of the school lunch catering industry, raising this
question led to an interesting insight. Suddenly those parents who
make their children’s lunches came into the equation. For many
children, parents had the same function: making their child’s
lunch. But they had a very different form: mom or dad versus a
lunch line in the cafeteria.
Different form and function, same objective. Some companies
lure customers from even further away. Cirque du Soleil, for exam-
ple, has diverted customers from a wide range of evening activities.
Its growth came in part through drawing people away from other
activities that differed in both form and function. For example, bars
and restaurants have few physical features in common with a cir-
cus. They also serve a distinct function by providing conversational
and gastronomical pleasure, a very different experience from the
visual entertainment that a circus offers. Yet despite these differ-
ences in form and function, people have the same objective in un-
dertaking these three activities: to enjoy a night out.
Listing the groups of alternative products and services allows
managers to see the full range of buyers they can poach from other
industries as well as from nonindustries, such as parents (for the
school lunch catering industry) or the noble pencil in managing
household finances (for the personal finance software industry).
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Having done this, managers should then graphically plot the price
and volume of these alternatives, as shown in figure 6-5.
This approach provides a straightforward way to identify where
the mass of target buyers is and what prices these buyers are pre-
pared to pay for the products and services they currently use. The
price bandwidth that captures the largest groups of target buyers is
the price corridor of the mass.
In some cases, the range is very wide. For Southwest Airlines, for
example, the price corridor of the mass covered the group of people
paying, on average, $400 to buy an economy-class short-haul ticket
to about $60 for the cost of going the same distance by car. The key
here is not to pursue pricing against the competition within an in-
dustry but rather to pursue pricing against substitutes and alterna-
tives across industries and nonindustries. Had Ford, for example,
priced its Model T against other autos, which were more than three
times the price of horse-drawn carriages, the market for the Model
T would not have exploded.
Step 2: Specify a Level Within the Price Corridor
The second part of the tool helps managers determine how high a
price they can afford to set within the corridor without inviting
competition from imitation products or services. That assessment
depends on two principal factors. First is the degree to which the
product or service is protected legally through patents or copyrights.
Second is the degree to which the company owns some exclusive
asset or core capability, such as an expensive production plant, that
can block imitation. Dyson, a British electrical white goods com-
pany, for example, has been able to charge a high unit price for its
bagless vacuum cleaner since the product’s launch in 1995, thanks
to both strong patents and hard-to-imitate service capabilities.
Many other companies have used upper-boundary strategic pric-
ing to attract the mass of target buyers. Examples include DuPont
with its Lycra brand in specialty chemicals, Philips’ ALTO in the
professional lighting industry, SAP in the business application
software industry, and Bloomberg in the financial software industry.
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On the other hand, companies with uncertain patent and asset
protection should consider pricing somewhere in the middle of the
corridor. As for companies that have no such protection, they must
set a relatively low price. In the case of Southwest Airlines, because
its service wasn’t patentable and required no exclusive assets, its
ticket prices fell into the lower boundary of the corridor—namely,
against the price of car travel. Companies would be wise to pursue
mid- to lower-boundary strategic pricing from the start if any of the
following apply:
• Their blue ocean offering has high fixed costs and marginal
variable costs.
• Their attractiveness depends heavily on network externalities.
• Their cost structure benefits from steep economies of scale
and scope. In these cases, volume brings with it significant
cost advantages, something that makes pricing for volume
even more key.
The price corridor of the mass not only signals the strategic
pricing zone central to pulling in an ocean of new demand but also
signals how you might need to adjust your initial price estimates to
achieve this. When your offering passes the test of strategic pric-
ing, you’re ready to move to the next step.
From Strategic Pricing to Target Costing
Target costing, the next step in the strategic sequence, addresses
the profit side of the business model. To maximize the profit poten-
tial of a blue ocean idea, a company should start with the strategic
price and then deduct its desired profit margin from the price to ar-
rive at the target cost. Here, price-minus costing, and not cost-plus
pricing, is essential if you are to arrive at a cost structure that is
both profitable and hard for potential followers to match.
When target costing is driven by strategic pricing, however, it is
usually aggressive. Part of the challenge of meeting the target cost
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is addressed in building a strategic profile that has not only diver-
gence but also focus, which makes a company strip out costs. Think
of the cost reductions Cirque du Soleil enjoyed by eliminating ani-
mals and stars or that Ford enjoyed by making the Model T in one
color and one model having few options.
Sometimes these reductions are sufficient to hit the cost target,
but often they are not. Consider the cost innovations that Ford had
to introduce to meet its aggressive target cost for the Model T. Ford
had to scrap the standard manufacturing system, in which cars
were handmade by skilled craftsmen from start to finish. Instead,
Ford introduced the assembly line, which replaced skilled crafts-
men with ordinary unskilled laborers, who worked one small task
faster and more efficiently, cutting the time to make a Model T from
twenty-one days to four days and cutting labor hours by 60 percent.3
Had Ford not introduced these cost innovations, it could not have
met its strategic price profitably.
Instead of drilling down and finding ways to creatively meet the
target cost as Ford did, if companies give in to the tempting route
of either bumping up the strategic price or cutting back on utility,
they are not on the path to lucrative blue waters. To hit the cost tar-
get, companies have three principal levers.
The first involves streamlining operations and introducing cost
innovations from manufacturing to distribution. Can the product’s
or service’s raw materials be replaced by unconventional, less ex-
pensive ones—such as switching from metal to plastic or shifting a
call center from the U.K. to Bangalore? Can high-cost, low-value-
added activities in your value chain be significantly eliminated,
reduced, or outsourced? Can the physical location of your product
or service be shifted from prime real estate locations to lower-cost
locations, as The Home Depot, IKEA, and Wal-Mart have done in
retail or Southwest Airlines has done by shifting from major to sec-
ondary airports? Can you truncate the number of parts or steps
used in production by shifting the way things are made, as Ford did
by introducing the assembly line? Can you digitize activities to re-
duce costs?
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By probing questions such as these, the Swiss watch company
Swatch, for example, was able to arrive at a cost structure some 30
percent lower than any other watch company in the world. At the
start, Nicolas Hayek, chairman of Swatch, set up a project team to
determine the strategic price for the Swatch. At the time, cheap
(about $75), high-precision quartz watches from Japan and Hong
Kong were capturing the mass market. Swatch set the price at $40,
a price at which people could buy multiple Swatches as fashion ac-
cessories. The low price left no profit margin for Japanese or Hong
Kong-based companies to copy Swatch and undercut its price. Di-
rected to sell the Swatch for that price and not a penny more, the
Swatch project team worked backwards to arrive at the target cost,
a process that involved determining the margin Swatch needed to
support marketing and services and earn a profit.
Given the high cost of Swiss labor, Swatch was able to achieve
this goal only by making radical changes in the product and pro-
duction methods. Instead of using the more traditional metal or
leather, for example, Swatch used plastic. Swatch’s engineers also
drastically simplified the design of the watch’s inner workings, re-
ducing the number of parts from one hundred fifty to fifty-one. Fi-
nally, the engineers developed new and cheaper assembly techniques;
for example, the watch cases were sealed by ultrasonic welding in-
stead of screws. Taken together, the design and manufacturing
changes enabled Swatch to reduce direct labor costs from 30 per-
cent to less than 10 percent of total costs. These cost innovations
produced a cost structure that is hard to beat and let Swatch prof-
itably dominate the mass market for watches, a market previously
dominated by Asian manufacturers with a cheaper labor pool.
Beyond streamlining operations and introducing cost innova-
tions, a second lever companies can pull to meet their target cost is
partnering. In bringing a new product or service to market, many
companies mistakenly try to carry out all the production and dis-
tribution activities themselves. Sometimes that’s because they see
the product or service as a platform for developing new capabili-
ties. Other times it is simply a matter of not considering other out-
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side options. Partnering, however, provides a way for companies to
secure needed capabilities fast and effectively while dropping their
cost structure. It allows a company to leverage other companies’ ex-
pertise and economies of scale. Partnering includes closing gaps in
capabilities through making small acquisitions when doing so is
faster and cheaper, providing access to needed expertise that has
already been mastered.
A large part of IKEA’s ability to meet its target cost, for example,
comes down to partnering. IKEA seeks out the lowest prices for ma-
terials and production via partnering with some fifteen hundred
manufacturing companies in more than fifty countries to ensure it
the lowest cost and fastest production of products in its IKEA
lineup of some twenty thousand items.
Or consider German-based, world-leading business application
software maker SAP. By partnering with Oracle, SAP saved hun-
dreds of millions if not billions of dollars in development costs and
got a world-class central database, namely Oracle’s, which sits
at the heart of SAP’s core products R/2 and R/3. SAP went a step
further and also partnered with leading consulting firms, such as
Capgemini and Accenture, to gain a global sales force overnight at
no extra cost. Whereas Oracle had the fixed costs of a much smaller
sales force on its balance sheet, SAP was able to leverage Capgem-
ini’s and Accenture’s strong global networks to reach SAP’s target
customers, with no cost implication to the company.
Sometimes, however, no amount of streamlining and cost inno-
vation or partnering will make it possible for a company to deliver
its target cost. This brings us to the third lever companies can use
to make their desired profit margin without compromising their
strategic price: changing the pricing model of the industry. By
changing the pricing model used—and not the level of the strategic
price—companies can often overcome this problem.
When film videotapes first came out, for example, they were
priced at around $80. Few people were willing to pay that amount
because no one expected to watch the video more than two or three
times. The strategic price of a video had to be set in relation to
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going to the movies and not to owning a tape for life. So at $80 a
tape, demand was not taking off. How could a company make
money by selling the videos at only a few dollars if it followed the
path of using strategic pricing? The answer was that it couldn’t.
Blockbuster, however, got around this problem by changing the
pricing model from selling to renting. This allowed it to strategi-
cally price videotapes at only a few dollars per rental. The result
was that the home video market exploded and Blockbuster made
more money by repeatedly renting the same $80 videos than it
could have by selling them outright. Similarly, IBM exploded the
tabulating market by shifting the pricing model from selling to
leasing to hit its strategic price while covering its cost structure.
In addition to Blockbuster’s rental model or IBM’s leasing
model, companies have used several innovations in pricing models
to profitably deliver on the strategic price. One model is the time-
share. The New Jersey company NetJets follows this model to make
jets accessible to a wide range of corporate customers, who buy the
right to use a jet for a certain amount of time rather than buy the
jet itself. Another model is the slice-share; mutual fund managers,
for example, bring high-quality portfolio services—traditionally
provided by private banks to the rich—to the small investor by sell-
ing a sliver of the portfolio rather than its whole.
Some companies are abandoning the concept of price altogether.
Instead, they give products to customers in return for an equity in-
terest in the customer’s business. Hewlett-Packard, for example, has
traded high-powered servers to Silicon Valley start-ups for a share
of their revenues. The customers get immediate access to a key ca-
pability, and HP stands to earn a lot more than the price of the ma-
chine. The aim is not to compromise on the strategic price but to hit
the target through a new price model. We call this pricing innova-
tion. Remember, however, that what is a pricing innovation for one
industry, such as video rentals, is often a standard pricing model in
another industry.
Figure 6-6 shows how value innovation typically maximizes
profit by using the foregoing three levers. As the figure depicts, a
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company begins with its strategic price, from which it deducts its
target profit margin to arrive at its target cost. To hit the cost target
that supports that profit, companies have two key levers: One is
streamlining and cost innovations, and the other is partnering.
When the target cost cannot be met despite all efforts to build a
low-cost business model, the company should turn to the third
lever, pricing innovation, to profitably meet the strategic price. Of
course, even when the target cost can be met, pricing innovation
still can be pursued. When a company’s offering successfully ad-
dresses the profit side of the business model, the company is ready
to advance to the final step in the sequence of blue ocean strategy.
136 F O R M U L A T I N G B L U E O C E A N S T R A T E G Y
F I G U R E 6-6
The Profit Model of Blue Ocean Strategy
The Strategic Price
The Target Cost
Pricing Innovation
Streamlining and
Cost Innovations
Partnering
The Target Profit
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A business model built in the sequence of exceptional utility,
strategic pricing, and target costing produces value innovation. Un-
like the practice of conventional technology innovators, value in-
novation is based on a win-win game among buyers, companies, and
society. Appendix C, “The Market Dynamics of Value Innovation,”
illustrates how such a game is played out in the market and shows
the economic and social welfare implications for its stakeholders.
From Utility, Price, and Cost to Adoption
Even an unbeatable business model may not be enough to guaran-
tee the commercial success of a blue ocean idea. Almost by defini-
tion, it threatens the status quo, and for that reason it may provoke
fear and resistance among a company’s three main stakeholders: its
employees, its business partners, and the general public. Before
plowing forward and investing in the new idea, the company must
first overcome such fears by educating the fearful.
Employees
Failure to adequately address the concerns of employees about the
impact of a new business idea on their livelihoods can be expensive.
When Merrill Lynch’s management, for example, announced plans
to create an online brokerage service, its stock price fell by 14 per-
cent as reports emerged of resistance and infighting within the
company’s large retail brokerage division.
Before companies go public with an idea, they should make a
concerted effort to communicate to employees that they are aware
of the threats posed by the execution of the idea. Companies
should work with employees to find ways of defusing the threats so
that everyone in the company wins, despite shifts in people’s roles,
responsibilities, and rewards. In contrast to Merrill Lynch, Mor-
gan Stanley Dean Witter & Co. engaged employees in an open inter-
nal discussion of the company’s strategy for meeting the challenge
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of the Internet. Morgan’s efforts paid off handsomely. Because
the market realized that its employees understood the need for an
e-venture, the company’s shares rose 13 percent when it eventually
announced the venture.
Business Partners
Potentially even more damaging than employee disaffection is the
resistance of partners who fear that their revenue streams or mar-
ket positions are threatened by a new business idea. That was the
problem faced by SAP when it was developing its product Acceler-
atedSAP (ASAP), an enterprise software system that was fast to im-
plement and hence low cost. ASAP brought business application
software within the reach of midsized and small companies for the
first time. The problem was that the development of best-practice
templates for ASAP required the active cooperation of large con-
sulting firms that were deriving substantial income from lengthy
implementations of SAP’s other products. As a result, they were
not necessarily incentivized to find the fastest way to implement
the company’s software.
SAP resolved the dilemma by openly discussing the issues with
its partners. Its executives convinced the consulting firms that they
stood to gain more business by cooperating. Although ASAP would
reduce implementation time for small and midsized companies,
consultants would gain access to a new client base that would more
than compensate for some lost revenues from larger companies.
The new system would also offer consultants a way to respond to
customers’ increasingly vocal concerns that business application
software took too long to implement.
The General Public
Opposition to a new business idea can also spread to the general
public, especially if the idea is very new and innovative, threaten-
ing established social or political norms. The effects can be devas-
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tating. Consider Monsanto, which makes genetically modified foods.
Its intentions have been questioned by European consumers, largely
because of the efforts of environmental groups such as Green-
peace, Friends of the Earth, and the Soil Association. The attacks of
these groups have struck many chords in Europe, which has a his-
tory of environmental concern and powerful agricultural lobbies.
Monsanto’s mistake was to let others take charge of the debate.
The company should have educated the environmental groups as
well as the public on the benefits of genetically modified food and
its potential to eliminate world famine and disease. When the prod-
ucts came out, Monsanto should have given consumers a choice be-
tween organic and genetically modified foods by labeling which
products had genetically modified seeds as their base. If Monsanto
had taken these steps, then instead of being vilified, it might have
ended up as the “Intel Inside” of food for the future—the provider
of the essential technology.
In educating these three groups of stakeholders—your employ-
ees, your partners, and the general public—the key challenge is to
engage in an open discussion about why the adoption of the new
idea is necessary. You need to explain its merits, set clear expecta-
tions for its ramifications, and describe how the company will ad-
dress them. Stakeholders need to know that their voices have been
heard and that there will be no surprises. Companies that take the
trouble to have such a dialogue with stakeholders will find that it
amply repays the time and effort involved. (For a fuller discussion
of how companies can engage stakeholders, see chapter 8.)
The Blue Ocean Idea Index
Although companies should build their blue ocean strategy in the
sequence of utility, price, cost, and adoption, these criteria form an
integral whole to ensure commercial success. The blue ocean idea
(BOI) index provides a simple but robust test of this system view
(see Figure 6-7).
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As shown in figure 6-7, had Philips’ CD-i and Motorola’s Iridium
scored their ideas on the BOI index they would have seen how far
they were from opening up lucrative blue oceans. With respect to
Philips CD-i, it did not create exceptional buyer utility with its of-
fering of complex technological functions and limited software
titles. It was priced out of reach of the mass of buyers, and its man-
ufacturing process was complicated and costly. With its compli-
cated design, it took more than thirty minutes to explain and sell to
customers, something that gave no incentive for sales clerks to sell
CD-i in fast-moving retail. Philips CD-i therefore failed all four cri-
teria on the BOI index despite the billions poured into it.
By assessing the business idea of the CD-i against the BOI index
during development, Philips could have foreseen the shortcomings
embedded in the idea and addressed them up front by simplifying
the product and locking in partners to develop winning software ti-
tles, setting a strategic price accessible to the masses, instituting
price-minus costing instead of cost-plus pricing, and working with
retail to find a simple, easy way for the sales force to sell and ex-
plain the product in a few minutes.
140 F O R M U L A T I N G B L U E O C E A N S T R A T E G Y
F I G U R E 6-7
Blue Ocean Idea (BOI) Index
DoCoMo
Philips Motorola i-mode
CD-i Iridium Japan
Utility Is there exceptional utility? Are there
compelling reasons to buy your offering?
– – +
Price Is your price easily accessible to the
mass of buyers?
– – +
Cost Does your cost structure meet the
target cost?
– – +
Adoption Have you addressed adoption hurdles
up front?
– +/– +
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Similarly, Motorola’s Iridium was unreasonably expensive be-
cause of high production costs. It provided no attractive utility for
the mass of buyers, not being usable in buildings or cars and being
the size of a brick. When it came to adoption, Motorola overcame
many regulations and secured transmission rights from numerous
countries. Employees, partners, and the society were also reason-
ably motivated to accept the idea. But the company had a weak
sales team and marketing channels in the global markets. Because
Motorola was not able to follow up sales leads effectively, Iridium
phone sets were sometimes unavailable when requested. Weak util-
ity, price, and cost positions, plus average adoption ability, indi-
cated that the Iridium idea would be a flop.
In contrast to these failures, consider NTT DoCoMo’s i-mode
launch in Japan. In 1999, when most telecom operators were focus-
ing on technology races and price competition over voice-based
wireless devices, NTT DoCoMo, the largest Japanese telecom oper-
ator, launched i-mode to offer the Internet on cell phones. Regular
mobile telephony in Japan had reached a high level of sophistica-
tion in terms of mobility, quality of voice, ease of use, and hard-
ware design. But it offered few data-based services such as e-mail,
access to information, news, and games, and transaction capabili-
ties, which were the killer applications of the PC-Internet world.
The i-mode service brought together the key advantages of these
two alternative industries—the cell phone industry and the PC-
Internet industry—and created unique and superior buyer utility.
The i-mode service offered exceptional buyer utility at a price ac-
cessible to the mass of buyers. The monthly i-mode subscription fee,
the voice and data transmission fee, and the price of content were
in the “nonreflection” strategic price zone, encouraging impulse
buying and reaching the masses as quickly as possible. For exam-
ple, the monthly subscription fee for a content site is between ¥100
and ¥300 ($1 and $3), which is the result of benchmarking against
the price of the weekly magazines most Japanese regularly pick up
at their train station kiosk.
After setting a price that was attractive to the mass of buyers,
NTT DoCoMo strove to obtain the capabilities it needed to deliver
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the service within its cost target in order to turn a profit. In achiev-
ing this end, the company was never bounded by its own assets and
capabilities. While it focused on its traditional role as an operator
to develop and maintain a high-speed, high-capacity network in the
i-mode project, it sought to deliver other key elements of its offer-
ing by actively partnering with handset manufacturers and infor-
mation providers.
By creating a win-win partnership network, the company aimed
to meet and sustain the target cost set by its strategic price. Al-
though there are many partners and dimensions involved in its
partnership network, a few aspects are particularly relevant here.
First, NTT DoCoMo regularly and persistently shared know-how
and technology with its handset manufacturing partners to help
them stay ahead of their competitors. Second, the company played
the role of the portal and gateway to the wireless network, expand-
ing and updating the list of i-mode menu sites while attracting con-
tent providers to join the i-mode list and create the content that
would boost user traffic. By handling the billing for the content
providers with a small commission fee, for example, the company
offered content providers major cost savings associated with billing
system development. At the same time DoCoMo also obtained a
growing revenue stream for itself.
More importantly, instead of using the Wireless Markup Lan-
guage (WML) under the WAP standard for site creation, i-mode
used c-HTML, an existing and already widely used language in
Japan. This made i-mode more attractive to content providers be-
cause under c-HTML, software engineers needed no retraining to
convert their existing Web sites, designed for the Internet environ-
ment, into sites for i-mode use, and thus they incurred no additional
costs. NTT DoCoMo also entered into collaborative arrangements
with key foreign partners, such as Sun Microsystems, Microsoft,
and Symbian, to reduce the total development costs and shorten
the time for an effective launch.
Another key aspect of the i-mode strategy was the way the project
was carried out. A team specially dedicated to the project was set
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up and given a clear mandate and autonomy. The head of the i-mode
team selected most of the team members and engaged them in an open
discussion on how to create the new market of mobile data commu-
nications, making them committed to the project. All this created a
favorable corporate environment for the adoption of i-mode. More-
over, the win-win game the company created for its partners, as well
as the readiness of the Japanese general public to use database
services, also contributed to the successful adoption of i-mode.
The i-mode service passed all four criteria on the BOI index, as
shown earlier in figure 6-7. Indeed, i-mode turned out to be an ex-
plosive success. Six months after its launch, subscribers had
reached the 1 million mark. Within two years, the number of sub-
scribers had reached 21.7 million, and revenues from packet trans-
mission alone had increased 130 times. By the end of 2003 the
number of subscribers had reached 40.1 million, and revenues from
the transmission of data, pictures, and text increased from 295 mil-
lion yen ($2.6 million) to 886.3 billion yen ($8 billion).
DoCoMo is the only company that has been able to make money
out of the mobile Internet. DoCoMo now exceeds its parent com-
pany, NTT, in terms of market capitalization as well as potential for
profitable growth.
Although i-mode has been a huge success in Japan, its success
outside Japan hinges on whether it can overcome regional adop-
tion barriers of a regulatory, cultural, and emotional nature as
well as those stemming from partnership dynamics and infrastruc-
ture economics.
Having passed the blue ocean idea index, companies are ready to
shift gears from the formulation side of blue ocean strategy to its
execution. The question is, How do you bring an organization with
you to execute this strategy even though it often represents a sig-
nificant departure from the past? This brings us to the second part
of this book, and the fifth principle of blue ocean strategy: over-
coming key organizational hurdles, the subject of our next chapter.
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