Session 17 Validating a Business Model

1. Session 17Validating a Business Model

2. market research suggests Ban Boredom isn’t working April 2000 adopted Ban Boredom May 1998 1997 1998 1999 2000 2001 improving financial performance DECISION May 2000

3. Store24 Ever been to one? What’s important to you?

4. What is Store24’s strategy in April 2000? • ‘Cause you just can’t wait • Ban Boredom • efficient service • comparable to operating strategy of other convenience stores • differentiation strategy • financial objective: increase sales per customer (and, to some extent, total volume) • marketing objective: create a fun, exciting in-store atmosphere. • Is this a good/bad strategy?? • Was it implemented well/poorly?

5. Good strategy?… 7-Eleven® Promotes Doug Foster as its First CMO Former Ad Exec Champions ‘Closer-to-the-Customer’, Local-Store Marketing “Creating the new CMO position demonstrates the important role marketing plays in achieving our company’s goals and reaching consumers where they live, work and play,”

6. Good strategy?… Pay Your Verizon Phone Bill When You Get a Cup of Coffee at 7-Eleven Verizon Customers in Select Markets Can Now Transact Phone Business at Electronic Kiosks in 7-Eleven® Stores 7-Eleven Stock May Run Out of Fuel; Gasoline Prices Near Highs,Which Could Limit Upside; Focus Shifts to Fancy Coffee In the past year, 7-Eleven began selling a new menu of fresh foods, including muffins, meat-stuffed hot pockets and its own brand of doughnuts. It also added to its private-label business, with a beer from El Salvador and an energy drink to compete with Red Bull. And the chain introduced a self-service kiosk offering check-cashing and some bill-paying capabilities among other services. Circle K Launches New Web SiteCircle K Takes “Convenience” to a New Level on the Internet. New Web Site Offers Local Residents Better Service Through Localized Internet Options

7. Balanced Scorecard Implementation?…

8. Balanced Scorecard How do firms (really) build a BSC?? • 2 approaches • “pulley and lever” approach is to include measures that • are currently available • pull the right lever at the time • drive local continuous improvement • measures “in vogue” “in the majority of cases [of failed strategies] – we estimate 70 percent – the real problem isn’t bad strategy… it’s bad execution.” source: The Strategy-Focused Organization (2001)

9. “Pulley & Lever” Approach • Survey of 157 firms (297 executives) documents the following common mistakes: • Not linking measures to strategy • < 30% identified causal links • Not validating the links • only 23% validated causal links source: “Coming up Short”, Ittner & Larcker, HBR, November 2003

10. “Pulley & Lever” Approach • Survey of 157 firms (297 executives) documents the following common mistakes: • Not setting the right performance targets • e.g., striving for 100% customer satisfaction • Poor measurement • > 70% employ metrics that lack • “statistical validity” - the extent to which a metric succeeds in capturing what it is supposed to capture, and • “reliability” - the degree to which measurement techniques reveal actual performance without introducing errors • inconsistent measurement techniques source: “Coming up Short”, Ittner & Larcker, HBR, November 2003

11. “Pulley & Lever” Approach • Instead, many firms rely on… • management intuition, organizational folklore, and unsophisticated guesses • fixation on the “off-the-shelf checklist” of the BSC (i.e., the “four buckets”) • seemingly endless measurement frameworks, models, and laundry lists of measures being pushed by consultants source: “Coming up Short”, Ittner & Larcker, HBR, November 2003

12. Balanced Scorecard How do firms (really) build a BSC?? • 2 approaches • “pulley and lever” approach is to include measures that • are currently available • pull the right lever at the time • drive local continuous improvement • measures “in vogue” • “hypothesis” approach is to include measures that have cause-and-effect relationships with value creation given the firm’s strategy

13. “Hypothesis” ApproachStrategy Map - Template Financial (tangible) value Defines the cause-and-effect relationships by which intangible assets will be transformed to tangible value. Customer Value Proposition Clarifies the conditions that will create value for the customer. Value-Creating Processes Defines the processes that will transform intangible assets into customer and financial outcomes. Clusters of Assets & Activities Defines the intangible assets that must be created/managed to create the value.

14. Store24Strategy Map???

15. Store24Strategy Map??? Customer Value Proposition

16. Store24Strategy Map??? Customer Value Proposition Operations Management Processes Customer Management Processes Innovation Processes

17. Store24Strategy Map??? Customer Value Proposition Operations Management Processes Customer Management Processes Innovation Processes Human Capital

18. Store24Strategy Map??? EBIT CC GM Sales Customer Value Proposition Customer Volume Comment Cards Operations Management Processes CYJCW Audit Score Customer Management Processes BB Audit Score Innovation Processes BB Audit Score Human Capital Manager Rating Average Crew Rating Other measures????

19. Financial Perspective Sales Margin C C EBIT Market share Share of Wallet (how much of each customer’s convenience store purchases are at Store24) Customer Perspective Internal Business Perspective Volume BB Audit Score Comment Cards CYJCW Audit Score Foot traffic Returns processing (post-sales service) Mystery Shopper Time to service (efficiency) Product quality Stockouts Learning & Growth Perspective Manager rating Avg crew rating Manager experience/tenure Crew experience/tenure Manager training hours Crew training hours Employee satisfaction Employee Turnover

20. Recommendation? • Drop Ban Boredom • Keep Ban Boredom • 2-pronged Approach • On what did you base your recommendation?? • Recall key issue: Bad strategy or bad implementation?? •  let’s use the data to shed light on this

22. Future Ban Boredom Per capita Controllable CYJCW Score Score Crew Skills Manager Skills Population Income Competitors Contribution Future Controllable Contribution 1.0000 CYJCW Score -0.0634 1.0000 Ban Boredom Score 0.1638 0.3966 1.0000 Crew Skills 0.7727 -0.0551 0.1111 1.0000 Manager Skills 0.0536 0.3132 0.1457 0.1665 1.0000 Population 0.0213 0.0161 -0.4273 -0.1700 -0.0883 1.0000 Per capita Income -0.0269 0.0295 -0.3327 0.1105 -0.3143 0.1129 1.0000 Competitors 0.0740 -0.0563 -0.1798 -0.0522 0.0032 0.3362 -0.5806 1.0000 Correlation Table Associations

23. Adjusted R Square 0.564666464 Coefficients P-value Intercept -26401.2118 0.3437 CYJCW Score -104.3605 0.7682 Ban Boredom Score 81.9156 0.3989 Crew Skills 19729.0227 0.0000 Manager Skills -2521.7767 0.4790 Population 0.4217 0.1204 Per capita Income -0.1266 0.5733 Competitors -98.1493 0.9429 Cause-and-Effect Relationships Regression Analysis FCC = -26401 - 104(CYJCW) + 82(BB) + 19729(CS) - 2522(MS) + .42(POP) - .13(PCI) - 98(COMP)

24. Adjusted R Square 0.564666464 Coefficients P-value Intercept -26401.2118 0.3437 CYJCW Score -104.3605 0.7682 Ban Boredom Score 81.9156 0.3989 Crew Skills 19729.0227 0.0000 Manager Skills -2521.7767 0.4790 Population 0.4217 0.1204 Per capita Income -0.1266 0.5733 Competitors -98.1493 0.9429 Cause-and-Effect Relationships Regression Analysis FCC = -26401 - 104(CYJCW) + 82(BB) + 19729(CS) - 2522(MS) + .42(POP) - .13(PCI) - 98(COMP)

25. High Crew Skills Low Crew Skills Cause-and-Effect Relationships FCC = -26401 - 104(CYJCW) + 82(BB) + 19729(CS) - 2522(MS) + .42(POP) - .13(PCI) - 98(COMP)

26. Adjusted R Square 0.984663337 bad implementation Coefficients P-value Intercept 10232.3481 0.0035 CYJCW Score 228.5064 0.0000 good strategy Ban Boredom Score 89.3316 0.0000 Crew Skills 482.7878 0.1742 Manager Skills 320.6066 0.4863 Population 0.0094 0.6976 Per capita Income 0.0417 0.0105 Competitors -237.0646 0.0335 Adjusted R Square 0.976587621 Coefficients P-value Intercept 8623.5298 0.0098 CYJCW Score 211.9625 0.0004 Ban Boredom Score -102.3691 0.0000 Crew Skills 1346.6198 0.0718 bad strategy Manager Skills 76.3075 0.7983 Population 0.0326 0.1716 Per capita Income 0.0382 0.1464 Competitors -256.4530 0.0646 Cause-and-Effect Relationships

27. bad implementation good strategy bad strategy Cause-and-Effect Relationships Estimate in one regression using an “interaction term.”

28. Identifying Interactions • Know your data • descriptive statistics (mean, median, sd, min, max) • look for simple relationships (correlations) • Use theory to guide your formulation of the model • Think about subsamples of observations for which your model may fit better/worse

29. Store24 … epilogue • Firm dropped Ban Boredom strategy in May 2000 • Subsequently invested in extensive employee training

30. Sales • Margin • Controllable Contribution • EBIT • Customer Volume • In-store Comment Cards • Ban Boredom score • CYJCW score • Manager Skills • Crew Skills source: Building Strategy Maps 2000

32. NFPMs Takeaways • NFPMs • can be leading indicators of financial performance • are often more “actionable” than high-level financial measures • Caveats… • They are not always easy (or cost-effective) to measure • reliability vs. relevance • If we put them in the compensation plan they will be subject to gaming which might make them less useful for decision-makingdecision facilitating vs. decision control • They should SUPPLEMENT, not replace financial measures…

33. BSC Takeaways • An effective BSC … • Translates (and communicates) strategy in a “balanced” set of financial and nonfinancial performance measures • Includes the relevant (i.e., goal congruent) PMs and excludes the irrelevant ones • measured with reliability • identified based on validated cause-and-effect links • “hypothesis approach” • Tied to rewards??? • many firms are, but not clear if this is always good decision facilitating vs. decision control • IF tied to rewards, do so… • consistently • with pre-defined weights that are communicated to managers

34. next time… Review