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www.hbr.org

 


 

Studies of corporate

 

performance reveal a growing

 

link between certain kinds of

 

technology investments and

 

intensifying competitiveness.

 


 

Investing in the IT That

 

Makes a Competitive

 

Difference

 

by Andrew McAfee and Erik Brynjolfsson

 


 

Included with this full-text Harvard Business Review article:

 

1 Article Summary

 

The Idea in Brief?the core idea

 

The Idea in Practice?putting the idea to work

 

2 Investing in the IT That Makes a Competitive Difference

 

11 Further Reading

 

A list of related materials, with annotations to guide further

 

exploration of the article?s ideas and applications

 


 

Reprint R0807J

 


 

Investing in the IT That Makes a Competitive

 

Difference

 

The Idea in Brief

 


 

The Idea in Practice

 


 

It?s not just you. It really is getting harder to

 

outpace the other guys. Since the mid1990s, competition in the U.S. economy

 

has accelerated to unprecedented levels.

 

The engine behind this hypercompetition:

 

IT. Thanks to powerful tools like ERP and

 

CRM, backed by cheap networks, companies are swiftly replicating business-process

 

innovations throughout their organizations.

 

The firm with the best processes (order

 

fulfillment, field installation, job closing)

 

wins, but not for long. Rivals are striking

 

back with their own IT-based process

 

innovations.

 


 

The authors recommend these steps for staying ahead of rivals through IT-enabled process innovation:

 


 

To gain?and keep?a competitive edge in

 

this environment, McAfee and Brynjolfsson

 

recommend a three-step strategy:

 

? Deploy a consistent technology platform, rather than stitching together a

 

jumble of legacy systems.

 


 

COPYRIGHT ? 2008 HARVARD BUSINESS SCHOOL PUBLISHING CORPORATION. ALL RIGHTS RESERVED.

 


 

? Innovate better ways of working.

 

? Propagate those process innovations

 

widely throughout your company.

 

By taking these steps, elevator-systems

 

maker Otis realized not only dramatically

 

shorter sales-cycle times but higher revenues and operating profit.

 


 

Deploy. Adopt a uniform technology platform

 

to be used throughout your company.

 

Example:

 

Before deploying a consistent platform,

 

Cisco?s various units had nine different tools

 

for checking an order?s status. Each pulled

 

information from different repositories and

 

defined key terms differently, leading to

 

circulation of conflicting order-status reports around the company. The company

 

reconfigured its IT systems for consistent

 

execution of key business processes including market to sell, lead to order, quote to

 

cash, issue to resolution, forecast to build,

 

idea to product, and hire to retire. The

 

payoff? Strong performance over the past

 

few years.

 

Innovate. Design better ways of doing work

 

in your company. The best candidates for

 

innovation are processes that:

 

? Apply across a large swatch of your company (such as all your stores, factories, or

 

delivery teams)

 

? Produce results as soon as your new IT

 

system goes live

 

? Require precise instructions (such as order

 

taking or delivery)

 

? Can be executed the same way everywhere

 

and every time in your organization

 

? Can be tracked in real time so you can immediately spot and address any backsliding

 

to older versions of the process

 


 

Example:

 

U.K. grocery chain Tesco has long used

 

customer-rewards cards to collect detailed

 

data on individual purchases, to categorize customers, and to tailor offers. But it

 

went one step further: tracking redemption

 

rates for direct-marketing initiatives and

 

tweaking its processes to get better responses from customers. Its process innovation drove its redemption rate to 20%?

 

far above the industry?s average of 2%.

 

Propagate. Use IT to replicate process innovations throughout your company.

 

Example:

 

At CVS pharmacies, customer satisfaction

 

was declining. The reason: Prescription orders were delayed during the insurance

 

check, which was performed after customers had left the store. So customers weren?t

 

immediately available to answer common

 

questions such as ?Have you changed jobs??

 

The company decided to move the insurance check forward in the prescriptionfulfillment process, before the drug-safety

 

review, so customers would still be around

 

to answer questions.

 

The process change was embedded in

 

the information systems that supported

 

operations at all 4,000 CVS pharmacies in

 

the United States. Performance improved

 

across all the pharmacies, and customer

 

satisfaction scores rose from 86% to 91%?

 

a dramatic difference in the aggressive

 

pharmacy market.

 


 

page 1

 


 

Studies of corporate performance reveal a growing link between certain

 

kinds of technology investments and intensifying competitiveness.

 


 

Investing in the IT That

 

Makes a Competitive

 

Difference

 


 

COPYRIGHT ? 2008 HARVARD BUSINESS SCHOOL PUBLISHING CORPORATION. ALL RIGHTS RESERVED.

 


 

by Andrew McAfee and Erik Brynjolfsson

 


 

It?s not just you. It really is getting harder to

 

outpace the other guys. Our recent research

 

?nds that since the middle of the 1990s, which

 

marked the mainstream adoption of the internet and commercial enterprise software,

 

competition within the U.S. economy has

 

accelerated to unprecedented levels. There

 

are a number of possible reasons for this

 

quickening, including M&A activity, the opening up of global markets, and companies? continuing R&D efforts. However, we found that

 

a central catalyst in this shift is the massive

 

increase in the power of IT investments.

 

To better understand when and where IT

 

confers competitive advantage in today?s

 

economy, we studied all publicly traded U.S.

 

companies in all industries from the 1960s

 

through 2005, looking at relevant performance indicators from each (including sales,

 

earnings, pro?tability, and market capitalization) and found some striking patterns: Since

 

the mid-1990s, a new competitive dynamic

 

has emerged?greater gaps between the leaders and laggards in an industry, more concen-

 


 

harvard business review ? july?august 2008

 


 

trated and winner-take-all markets, and more

 

churn among rivals in a sector. Strikingly,

 

this pattern closely matches the turbulent

 

?creative destruction? mode of capitalism

 

that was ?rst predicted over 60 years ago by

 

economist Joseph Schumpeter. This accelerated competition has coincided with a sharp

 

increase in the quantity and quality of IT

 

investments, as more organizations have

 

moved to bolster (or altogether replace) their

 

existing operating models using the internet

 

and enterprise software. Tellingly, the changes

 

in competitive dynamics are most apparent in

 

precisely those sectors that have spent the

 

most on information technology, even when

 

we controlled for other factors.

 

This pattern is a familiar one in markets

 

for digitized products like computer software and music. Those industries have long

 

been dominated by both a winner-take-all

 

dynamic and high turbulence, as each group

 

of dominant innovators is threatened by

 

succeeding waves of innovation. Consider

 

how quickly Google supplanted Yahoo, which

 


 

page 2

 


 

Investing in the IT That Makes a Competitive Difference

 


 

Andrew McAfee (amcafee@hbs.edu)

 

is an associate professor at Harvard

 

Business School in Boston. He is the

 

author of ?Mastering the Three

 

Worlds of Information Technology?

 

(HBR November 2006) and has a blog

 

at andrewmcafee.org/blog.

 

Erik Brynjolfsson (erikb@mit.edu) is

 

the Schussel Family Professor at the

 

MIT Sloan School of Management and

 

the director of MIT?s Center for Digital

 

Business in Cambridge, Massachusetts. More of the author?s research is

 

available at digital.mit.edu/erik.

 


 

supplanted AltaVista and others that created

 

the search engine market from nothing. Or

 

the relative speed with which new recording

 

artists can dominate sales in a category.

 

Most industries have historically been fairly

 

immune from this kind of Schumpeterian

 

competition. However, our ?ndings show

 

that the internet and enterprise IT are now

 

accelerating competition within traditional

 

industries in the broader U.S. economy. Why?

 

Not because more products are becoming

 

digital but because more processes are: Just as

 

a digital photo or a web-search algorithm

 

can be endlessly replicated quickly and accurately by copying the underlying bits, a company?s unique business processes can now be

 

propagated with much higher ?delity across

 

the organization by embedding it in enterprise information technology. As a result, an

 

innovator with a better way of doing things

 

can scale up with unprecedented speed to

 

dominate an industry. In response, a rival can

 

roll out further process innovations throughout its product lines and geographic markets

 

to recapture market share. Winners can win

 

big and fast, but not necessarily for very long.

 

CVS, Cisco, and Otis Elevator are among

 

the many companies we?ve observed gaining

 

a market edge by competing on technologyenabled processes?carefully examining their

 

working methods, revamping them in interesting ways, and using readily available

 

enterprise software and networking technologies to spread these process changes to

 

far-?ung locations so they?re executed the

 

same way every time.

 

In the following pages, we?ll explore why

 

the link between technology and competition

 

has become much stronger and tighter since

 

the mid-1990s, and we?ll clarify the roles

 

that business leaders and enterprise technologies should play in this new environment.

 

Competing at such high speeds isn?t easy, and

 

not everyone will be able to keep up. The

 

senior executives who do may realize not

 

only greatly improved business processes but

 

also higher market share and increased

 

market value.

 


 

How Technology Has Changed

 

Competition

 

The mid-1990s marked a clear discontinuity in

 

competitive dynamics and the start of a period

 

of innovation in corporate IT, when the inter-

 


 

harvard business review ? july?august 2008

 


 

net and enterprise software applications?

 

like enterprise resource planning (ERP), customer relationship management (CRM), and

 

enterprise content management (ECM)?became practical tools for business. Corporate investments in IT surged during this time?from

 

about $3,500 spent per worker in 1994 to

 

about $8,000 in 2005, according the U.S. Bureau of Economic Analysis (BEA). (See the exhibit ?The IT Surge.?) At the same time, annual productivity growth in U.S. companies

 

roughly doubled, after plodding along at

 

about 1.4% for nearly 20 years. Much attention

 

has been paid to the connection between

 

productivity growth and the increase in IT

 

investment. But hardly any has been directed

 

to the nature of the link between IT and

 

competitiveness. That?s why, with help from

 

Harvard Business School researcher Michael

 

Sorell and Feng Zhu, who?s now an assistant

 

professor at USC, we set out two years ago

 

to compare the increase in IT spending with

 

various measures of competition, focusing on

 

three quanti?able indicators: concentration,

 

turbulence, and performance spread.

 

In a concentrated or winner-take-all industry, just a few companies account for the bulk

 

of the market share. For our study, we focused on the degree to which each industry

 

became more or less concentrated over time.

 

A sector is turbulent if the sales leaders in it

 

are frequently leapfrogging one another in

 

rank order. And ?nally the performance spread

 

in an industry is large when the leaders and

 

laggards differ greatly on standard performance measures such as return on assets,

 

pro?t margins, and market capitalization per

 

dollar of revenue?the kinds of numbers that

 

matter a lot to senior managers and investors.

 

Were there economywide changes in these

 

three measures after the mid-1990s, when IT

 

spending accelerated? If so, were the changes

 

more pronounced in industries that were

 

more IT intensive?that is, where IT made

 

up a larger share of all ?xed assets within an

 

industry? In a word, yes.

 

We analyzed industry data from the BEA,

 

as well as from annual company reports, and

 

found that average turbulence within U.S.

 

industries rose sharply starting in the mid1990s. Furthermore, after declining in previous decades, industry concentration reversed

 

course and began increasing around the same

 

time. Finally, the spread between the highest

 


 

page 3

 


 

Investing in the IT That Makes a Competitive Difference

 


 

and lowest performers also increased. These

 

changes coincided with the surge in IT investment and the concurrent productivity

 

rise, suggesting a fundamental change in

 

the underlying economics of competition.

 

(See the exhibit ?Competitive Dynamics:

 

Several Ways to Slice IT.?)

 

Looking more closely at the data, we found

 

that the changes in dynamics were indeed

 

greatest in those industries that were more IT

 

intensive?for instance, consumer electronics

 

and auto parts manufacturers. Further, we

 

considered the role of M&A activity, globalization, and R&D spending in our analysis of

 

the competitive landscape and found some

 

minor correlations?but none strong enough

 

to override our measures (see the sidebar ?Is

 

IT the Only Factor That Matters??).

 

One interpretation of our ?ndings might be

 

that IT is, indeed, inducing the intensi?ed

 

competition we?ve documented?but that

 

the change in dynamics is only temporary.

 

According to this argument, the years since

 

the mid-1990s have seen a onetime burst of

 

innovation from IT producers, and it?s simply

 

taking IT-consuming companies a while to

 

absorb them all. Businesses will eventually

 

?gure out how to internalize all the new

 

tools, proponents of this theory say, and then

 

all industries will revert to their previous

 


 

The IT Surge

 

The total real stock of IT hardware and software in the United States began to rise

 

dramatically in the mid-1990s.

 

Dollar value of total U.S. corporate IT stock

 

Spending

 

compared to

 

1995 level

 


 

Triple

 


 

Double

 


 

Baseline

 


 

1965

 


 

1975

 


 

1985

 


 

Source: U.S. Bureau of Economic Analysis

 


 

harvard business review ? july?august 2008

 


 

1995

 


 

2005

 


 

competitive patterns.

 

While it?s true that the tool kit of corporate

 

IT has expanded a great deal in recent years,

 

we believe that an overabundance of new

 

technologies is not the fundamental driver of

 

the change in dynamics we?ve documented.

 

Instead, our ?eld research suggests that businesses entered a new era of increased competitiveness in the mid-1990s not because they

 

had so many IT innovations to choose from

 

but because some of these new technologies

 

enabled improvements to companies? operating models and then made it possible to replicate those improvements much more widely.

 

CVS offers a great example. There?s no shortage of people looking to ?ll prescriptions?or

 

of outlets ready to handle those orders. So CVS

 

works hard to maintain a high level of customer service. Imagine senior management?s

 

concern, then, when surveys conducted in

 

2002 revealed that customer satisfaction was

 

declining. Further analysis uncovered a key

 

problem: Some 17% of the prescription orders

 

were being delayed during the insurance

 

check, which was often performed after customers had already left the store. The team

 

decided to move the insurance check forward

 

in the prescription ful?llment process, before

 

the drug safety review, so all customers would

 

still be around to answer common questions

 

such as, ?Have you changed jobs??

 

This two-step process change was embedded in the information systems that supported

 

pharmacy operations, thereby ensuring 100%

 

compliance. The transaction screen for the

 

drug safety review now appeared on pharmacists? computers only after all the ?elds in the

 

insurance-check screen had been completed;

 

it was simply no longer possible to do the

 

safety review ?rst. The redesigned protocol

 

helped boost customer satisfaction scores

 

without compromising safety?and not just in

 

one store but in all of them. CVS used its

 

enterprise information technology to replicate the new process throughout its 4,000plus retail pharmacies nationwide within a

 

year. Performance increased sharply, and

 

overall customer satisfaction scores rose from

 

86% to 91%?a dramatic difference within the

 

aggressive pharmacy market.

 

The enterprise IT underlying this initiative

 

served two key roles. It helped the process

 

changes stick: Clerks and pharmacists couldn?t

 

fall back on their old habits once the new

 


 

page 4

 


 

Investing in the IT That Makes a Competitive Difference

 


 

Competitive Dynamics: Several Ways to Slice IT

 

How does IT spending affect the nature of competition and the relative performance of companies within an industry? To

 

answer those questions, we focused on three indicators?industry concentration, turbulence, and performance spread. When

 

we aggregated data from all companies in all industries between 1965 and 2005, we noticed a consistent pattern: All indicators

 

rose markedly in the mid-1990s for high-IT industries (those in which IT accounts for a comparatively large percentage of all

 

?xed assets), coinciding with the surge in IT spending.

 

Market share held by

 

top 20 largest firms

 


 

Industry Concentration: After decades of decline in all industries, industry concentration began to rise in

 

the mid-1990s. Though the absolute

 

level is lower, the rate of rise is faster in

 

high-IT industries than it is for low-IT

 

industries.

 


 

Low-IT Industries

 


 

100%

 


 

High-IT Industries

 


 

80

 


 

60

 


 

40

 


 

20

 


 

0

 

1965

 


 

Average jump in

 

number of places

 

up or down the

 

rankings from

 

previous year

 


 

20

 


 

16

 


 

12

 


 

8

 


 

4

 


 

1975

 


 

1985

 


 

1995

 


 

2005

 


 

Turbulence: In turbulent markets,

 

the top-selling company one year may

 

not dominate the next. Today?s 10th

 

place company, for instance, might

 

catapult to number one the following

 

year. In less turbulent markets the same

 

companies dominate year after year

 

and there?s very little movement up and

 

down in rank order. By this measure,

 

we found consistently more sales turbulence in high-IT industries?and a

 

marked increase in the mid-1990s.

 


 

0

 


 

P e r c e n t a g e g ap

 

between top and

 

bottom quartiles

 


 

60%

 


 

40

 


 

Performance Spread: The spread in

 

gross pro?t margin between the company performing at the 25th percentile

 

in its industry and the company performing at the 75th percentile?an indication of the spread between winners

 

and losers?has grown dramatically in

 

high-IT industries since the mid-1990s.

 


 

20

 


 

0

 


 

harvard business review ? july?august 2008

 


 

page 5

 


 

Investing in the IT That Makes a Competitive Difference

 


 

protocol was embedded in the company?s

 

information systems. More important, it also

 

allowed for quick and easy propagation of

 

the new process to all 4,000 sites?radically

 

amplifying the economic value of the initial

 

innovation. Without enterprise IT, CVS could

 

still have tried to implement this process innovation, but it would have been much more

 

cumbersome. Updated procedure manuals

 

might have been sent to all CVS locations, or

 

managers may have been rotated in for training sessions and then periodically surveyed to

 

monitor compliance. But propagating the new

 

process digitally accelerated and magni?ed its

 

competitive impact by vastly increasing the

 

consistency of its execution throughout the

 

organization.

 

Although modern commercial enterprise

 

systems are relatively recent?SAP?s ERP platform, for example, was introduced in 1992?

 

by now, companies in virtually every industry

 

have adopted them. According to one estimate, spending on these complex platforms

 

already accounted for 75% of all U.S. corporate IT investment in 2001. More recently,

 

IT consultancy Gartner Group projected that

 

worldwide enterprise software revenue would

 

approach $190 billion in 2008.

 

To understand how this profusion of enterprise IT is changing the broader competitive

 

landscape, imagine that a drugstore chain like

 

CVS has a number of rivals, most of which

 


 

Is IT the Only Factor That Matters?

 

Previous research suggests that the

 

changes we?ve observed in the competitive environment are not primarily

 

driven by shifts in M&A activity, globalization, or R&D spending. New York

 

University?s Lawrence White, in a paper

 

published in the Journal of Economic

 

Perspectives in 2002, contended that

 

M&A activity explained neither the decline in concentration in the ?rst half of

 

the 1990s nor its rise in the second half.

 

In a 2006 research paper published in

 

Industrial and Corporate Change, Harvard

 

Business School?s Pankaj Ghemawat

 

and his colleagues found that industry

 

concentration tends to decrease as

 

globalization rises, implying that

 


 

concentration has increased since the

 

mid-1990s not because of more global

 

competition but despite it.

 

On the other hand, Harvard professor

 

Diego Comin and his colleagues, in

 

their 2005 working paper, ?The Rise in

 

Firm-Level Volatility,? did ?nd a correlation between companies? spending on

 

R&D and changes in industry turbulence. So we reexamined our ?ndings,

 

including R&D spending in our assessments, and found that it does not detract from the signi?cance of our IT

 

measures. In fact, IT appears to be

 

much more strongly correlated with the

 

changes in competitive dynamics than

 

R&D does.

 


 

harvard business review ? july?august 2008

 


 

also have multiple stores. Before the advent

 

of enterprise IT, a successful innovation by a

 

manager at one store could lead to dominance in that manager?s local market. But

 

because no ?rm had a monopoly on good

 

managers, other ?rms might win the competitive battle in other local markets, re?ecting

 

the relative talent at these other locations.

 

Sharing and replication of innovations (via

 

analog technologies like corporate memos,

 

procedures manuals, and training sessions)

 

would be relatively slow and imperfect, and

 

overall market share would change little from

 

year to year.

 

With the advent of enterprise IT, however,

 

not just CVS, but its competitors have the

 

option to deploy technology to improve their

 

processes. Some may not exercise this option

 

because they don?t believe in the power of IT.

 

Others will try and fail. Some will succeed,

 

and effective innovations will spread rapidly.

 

The ?rm with the best processes will win in

 

most or all markets. At the same time, competitors will be able to strike back much more

 

quickly: Instead of simply copying the ?rst

 

mover, they will introduce further IT-based

 

innovations, perhaps instituting digitally mediated outsourcing or CRM software that

 

identi?es cross- and up-selling opportunities.

 

These innovations will also propagate widely,

 

rapidly, and accurately because they are embedded in the IT system. Success will prompt

 

these companies to make bolder and more

 

frequent competitive moves, and customers

 

will switch from one company to another in

 

response to them.

 

As a result, performance spread will rise, as

 

the most successful IT exploiters pull away

 

from the pack. Concentration will increase, as

 

the losers fall by the wayside. And yet turbulence will actually intensify, as the remaining

 

rivals use successive IT-enabled operatingmodel changes to leapfrog one another over

 

time. Thus, despite the shakeout, rivalry in

 

the industry will continue to become more

 

fast-paced, intense, and dynamic than it was

 

prior to the advent of enterprise technology.

 

These are exactly the changes we see re?ected

 

in the data.

 

In this Schumpeterian environment, the

 

value of process innovations greatly multiplies. This puts the onus on managers to be

 

strategic about innovating and then propagating new ways of working.

 


 

page 6

 


 

Investing in the IT That Makes a Competitive Difference

 


 

Competing on Digital Processes

 

To survive, or better yet thrive, in this more

 

competitive environment, the mantra for any

 

CEO should be, ?Deploy, innovate, and propagate?: First, deploy a consistent technology

 

platform. Then separate yourself from the

 

pack by coming up with better ways of

 

working. Finally, use the platform to propagate these business innovations widely and

 

reliably. In this regard, deploying IT serves

 

two distinct roles?as a catalyst for innovative

 

ideas and as an engine for delivering them.

 

Each of the three steps in the mantra presents

 

different and critical management challenges,

 

not least of which have to do with questions of

 

centralization and autonomy.

 

Deployment: the management challenge.

 

Since the mid-1990s, the commercial availability of enterprise software packages has added

 

a new item to the list of senior management?s

 

responsibilities: Determining which aspects of

 

their companies? operating models should be

 

globally (or at least widely) consistent, then

 

using technology to replicate them with high

 

?delity. Some top teams have pounced on

 

the opportunity. Many more, however, have

 

embraced this responsibility only reluctantly,

 

unwilling to tackle two formidable barriers to

 


 

deployment: fragmentation and autonomy.

 

Historically, regional, product, and function

 

managers have been given a great deal of leeway to purchase, install, and customize IT systems as they see ?t. But bitter experience has

 

shown that it?s prohibitively time-consuming

 

and expensive to stitch together a jumble of

 

legacy systems so they can all use common

 

data, and support and enforce standardized

 

processes. Even if a company invests heavily

 

in standardized enterprise software for the

 

entire organization, it may not remain standard for long, as the software is deployed in

 

ways other than it was originally intended

 

in dozens, or even hundreds, of separate instances. When that happens, it?s almost

 

certain that data, processes...

 

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