Choosing which markets to compete in is one of the most critical decisions business leaders make. Several studies have demonstrated that more than half of a company’s long-term growth and value creation depend on being in the right markets. It is also a difficult decision and hence could well be a source of strategic advantage.
Committing to one market and foregoing all other opportunities requires a great deal of healthy leadership stubbornness, especially if it involves large upfront investments or exiting businesses to which the organization had previously committed.
Companies have a strong incentive to be vague about their markets, defining them in overly broad terms and procrastinating or avoiding the decision to exit businesses. Vague definitions allow companies to avoid being wrong, even if it means lower growth, fewer profits and lesser value creation.
There is also a strong incentive to answer the question “in which markets should we compete”, in the same way as everyone else (as per the old adage, “no one gets fired for following the bandwagon”).
For example, companies considering international markets will often look at factors such as how much growth is expected by country.
Figure 1: GDP growth 2016, US$ billions
Source: IMF, analysis
In this example, China and the US seem to be good candidates, as 60 percent of the world’s GDP growth should come from these two markets.
The problem is that in many cases, a “country” may not be the best unit to define a market.
Yes, “countries” have political, legal, trade and tax commonalities but in most cases these characteristics are not the defining factors in a company’s strategy unless, for example, the company sells tax services.
In this geographic expansion example, if we looked at GDP growth per city instead of using countries as the unit for markets, we would reach a very different conclusion: 12 cities should account for 10 percent of the world’s growth in the period. This list includes a number of cities in China and the US but also places such as Tokyo, Istanbul, London and Singapore, which should produce more economic growth than Hangzhou in China or Chicago in the US.
While most companies obsess about building competitive advantages, few consider building a market selection advantage.
Companies invest significant time and resources to differentiate themselves from their competitors in their markets but use the same market definitions and often the same data to prioritize efforts and allocate resources.
However, outsmarting competitors in this has a huge pay-off. A study by McKinsey & Company found that for large companies, market selection is two times more important for growth than competitive actions and acquisitions combined.
Figure 2. Average Revenue CAGR (compound annual growth rate) of large companies 1999-2006 by source of growth, percentage points
Source: McKinsey & Company, analysis
The main benefit of adopting a more sophisticated definition of “what and where is a market” is that it allows companies to align it with their strategy. For example, a media company may look at GDP growth by language to prioritise markets and thus focus resources to compete for English, Mandarin and Spanish-speaking audiences. A construction company may focus R&D on the needs of buyers in rainy geographies.
As an example, we recently helped a client that provides niche IT services use this approach and understand how much the firm is expected to spend per technology platform by spoken language. This analysis allowed the company to align its market entry priorities with its strategy for recruiting and developing people, resulting in significant benefits in terms of managing rates, utilisation and talent development.
In our book Revenue Growth: Four Proven Strategies, we discuss how our consultancy has helped companies conduct market segmentation leading to superior value creation. The key is to use definitions of markets and segments that allow you to develop differentiated insights and design strategies based on these insights. Using the same definition as your competitors and pursuing differentiation as an after-thought means fighting within a confined space.
- This post gives the views of its authors, not the position of LSE Business Review or the London School of Economics.
- Featured image credit: Dotted world map, by Matti Mattila CC-BY-2.0
Luiz Zorzella is an expert on new markets and a strategy consultant at Amquant. He is a former McKinsey consultant and former JP Morgan investment banker. He co-authored “Revenue Growth: Four Proven Strategies” (McGraw-Hill). Follow him on Twitter @lzorzella Email: email@example.com
Josemaria Siota is the Director at Simastec Consulting and collaborates in research projects with IESE Business School. He co-authored “Revenue Growth: Four Proven Strategies” (McGraw-Hill). He is a former Deloitte consultant. Follow him on Twitter @josemariasiota