Transformation is crucial when digital disruption is the norm

Memories of the last tech bubble, when big companies worried about being “dotcommed” by internet start-ups that wanted to take their trade, have faded. Instead businesses now fear being “Uber-ed”.

From taxi drivers to television networks, from filmmakers to restaurants and banks, the ways in which individuals and companies do business is metamorphosing so quickly that many companies find it hard to keep pace.

The obsession with digital disruption has reached a flashpoint with the arrival of the smartphone, which is the platform for an invasion of older companies’ hallowed grounds. The success of online lift-sharing company Uber has become an example for entrepreneurs out to attack industries once thought immune to digital upheaval.

Despite this, established companies still have many advantages, says Paul Willmott, a director at McKinsey who specialises in digital transformation. These include extensive customer bases, known brands and industry knowledge, which weigh in their favour.

For all that, the need to overhaul business processes, forge digital links with customers and, in some cases, recast entire revenue models can still be pressing. A common error is failing to pay attention to the bigger picture, says Surajit Kar, a principal at management consultancy PwC. Distracted by day-to-day events, or by minor adaptations to existing businesses, companies become stuck on the incremental instead of looking at the real game-changing forces in their markets, he says.

The ways in which digital markets tend to evolve can catch out the unwary and opportunities are often to be found between existing markets, says Mr Kar. In industries such as healthcare and financial services, for instance, digital competitors often use technology to insert themselves as intermediaries in different ways. Start-ups such as US-based Practice Fusion, for instance, have used the spread of electronic medical records and other clinical data to create markets in the healthcare field, such as selling data to insurance and pharmaceutical companies.

Established businesses are faced with a common question, he says: “How far from our current business model is it and can we go there?”

Businesses still have a tendency to react to digital competition in knee-jerk ways — “ready, fire, aim”, as Mr Willmott puts it. This is prompted partly by a fear that start-ups are moving so fast that established names have no choice but to speed up their own digital processes.

In fact, choosing not to be first into a new market can be a valid strategy, according to the McKinsey director. Retail banks, for instance, can afford to be slow to respond to challenges, given the cautious way their customers adopt digital channels and new brands.

In faster-changing markets such as the media, on the other hand, lagging behind disrupters can be fatal. For example, the rapid shift of classified advertising to the web left many US metropolitan newspapers that had relied on income from car, job and real estate adverts high and dry.

A key question is where the value in digital lies. Typically, the answer involves either looking to take costs out of the supply chain or recasting customer relationships through online channels, says Mr Willmott.

It is when it comes to digital execution that the pitfalls multiply. Most companies have understood the need to hire digital experts — such as chief digital officers, whose job is to spot potential challenges and create revenue opportunities when disruption occurs — and to give them some degree of insulation from mainstream operations to save newcomers from being swamped by short-term imperatives.

But that has often come at the cost of failing to transform core operations quickly enough. Many of the first companies to feel the heat of internet competition fell into this trap. The example of the newspaper industry again serves as a warning of how rapidly user behaviour can change, turning what seemed to be a manageable shift to online channels into a deluge of competition. When digital channels accounted for less than 10 per cent of newspaper revenues, it was easy to see them as sidelines.

As smartphones proliferate, the failure to embed a digital culture more broadly can be costly. The key is to create a team of both digital experts and employees from the traditional part of the business, and place it at the heart of a company’s operations, says Mr Kar at PwC, to share skills and keep the business on track.

Incumbents tend to favour old ways of doing things as changes can dent profits and cause dissension

People with entirely different sets of business skills are often needed, as companies move from analogue to digital delivery channels. An effective manager of an ecommerce business, for instance, usually has a skills set that is at odds with those to a traditional retailer, adds Mr Willmott.

Stocking and running retail stores has little in common with running a winning website. And, crucially, managers who have learnt to operate in the analogue era must to learn how to use big data to guide decisions.

Companies that succeed in building an effective digital capability at the heart of their operations also need to be ready for the consequences, says Mr Willmott. Their senior-level decision-making, for instance, often needs to speed up to enable the digital division to move quickly. And they have to be ready for the way successful digital transformations often lead to an unsettling power shifts within companies.

Navigating these waters leaves many businesses facing the toughest question of all: how quickly should they pull back from their traditional, profitable — but nonetheless shrinking — operations to invest in the digital future?

This is the innovator’s dilemma, as described by Clayton Christensen, a Harvard Business School professor. Incumbents can find it hard to respond to newcomers with a good enough product, since doing so often involves turning away from doing profitable things.

For example, Steve Ballmer, the former Microsoft chief executive, by most standards had one of the most effective runs of any chief executive in his 14 years at the top. Its revenues climbed fourfold and it was the world’s second most valuable tech company, though topped by Apple. Since he stepped down last year, however, Microsoft has raced to rebuild its business around the mobile devices and cloud computing.

Incumbents may tend to favour old ways of doing things, says Mr Willmott, as changes can dent profits and cause dissension. But it is better than finding the world has moved on without you.