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šŸ–¼ļø Strategic Finance II: Frameworks you canā€™t ignore

The business school lessons that actually matter

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Memory lane

Letā€™s turn the clock back.

An 18-year-old Secret CFO is in the first year of college.

Sitting in a strategic marketing class with a dreadful hairstyle. A variation of the mullet but only with half commitment. It wasnā€™t fashionable then. Let alone today.

I was hungover, barely paying attention. I must have heard Michael Porterā€™s name and the words ā€˜competitive positioningā€™ no less than 30 times in the last 45 minutes.

I leaned over to my buddy (he had the same hairstyle) and said: ā€œThis is bullsh*t, we are never going to need this in the real world.ā€

Ah, the arrogance of youth. I couldnā€™t have been more wrong.

While there was plenty of stuff I learned at college that I wouldnā€™t ever need, there was also a bunch that would be invaluable. Porterā€™s competitive positioning is a great example.

Itā€™s a model that has served me in understanding businesses, and how they compete, throughout my career.

In the case of strategic theory and models, the ā€˜classicsā€™ are the classics for a reason.

Same with hairstylesā€¦

Deep Dive

This is the second part of a 4-part series on strategy from the CFO seat.

Strategic frameworks you canā€™t ignore

Amazon returns 60,000 results for books with the word ā€˜strategyā€™ in the title. And Iā€™ll bet there are many more than that.

And that is the problem with strategy. There is so much material. So many different models, full of hot takes and 2 x 2 grids.

I havenā€™t read 60,000 books, but I have consumed a bunch of content on strategy through the years. And have seen many different CEOs and boards bring their pet strategy formulas to apply to real world situations.

Despite that, there are only a small number of strategy models and formulas that survive contact with the real world. And they are the ones that come round and round again.

So letā€™s save you some time wading through 60,000 Amazon titles, and summarize the 5 strategy models that you need to know as a CFO:

  • SWOT

  • PESTLE

  • Porterā€™s Competitive Positioning

  • Strategy Canvas

  • Helmerā€™s 7 Powers

Letā€™s take each in turn.

SWOT Analysis

The SWOT analysis (which started life as SOFT) was invented by Albert Humphrey (a Harvard MBA and strategy consultant) in the 1960s.

Unless you live in a cave, you will know SWOT stands for strengths, weaknesses, opportunities, and threats. SWOT analysis is a tool for situational analysis in a business.

Itā€™s a way of identifying those attributes of a situation that could be helpful or harmful to a business. And whether those attributes pertain to the company itself, or its environment.

SWOT analysis will never give you the answer to a strategic problem. But itā€™s a nice framework at the start of a strategic planning process to understand your current situation.

Here is an example applying the SWOT framework to the Starbucks business (although this is a big ā€˜top levelā€™ for my liking):

The key to building a great SWOT analysis is to be able to ask the right questions about your business.

Here is a checklist of questions you can use to draw out components of your SWOT.

My college professor taught the SWOT analysis as the SWOTE analysis.

The E stood for ā€˜Elephants.ā€™ i.e. ā€œOk, so weā€™ve done our SWOT analysis, but what are the big issues, what are the elephants in the room?ā€

He encouraged us to summarize the SWOT analysis with 4-6 written statements that clearly articulate strategic issues facing a business. Iā€™d give him due credit, but I canā€™t remember his nameā€¦

While his ā€˜SWOTEā€™ never caught on, I do like the principle and have used it ever since. The ā€˜Eā€™ acts as a weighing machine, bringing an urgency and prioritization to the SWOT analysis.

This can cut through a whole bunch of pontificating in the boardroom over hypothetical scenarios, with little practical value.

As CFO you might need to lead the process of building the SWOT, or you might be a participant/have a voice at the table. It depends on the structure of your business, and the profile/importance of the strategic review.

My experience is that the best SWOT reviews are led by strategic marketing folk, not finance folkā€¦

Either way, at a minimum, you need to bring the SWOT impacts to the table that sit within your domain expertise. As examples;

  • Your balance sheet position and funding capacity, oftentimes, sits as either an ā€˜Sā€™ or a ā€˜Wā€™ on the SWOR.

  • As does your core profitability/cash generating capability

PESTLE

PESTLE stands for political, economic, social, technological, legal, and environment.

Some of us are old enough to remember when ā€˜PESTLEā€™ was taught as PEST, first developed by Francis Aguilar (another Harvard scholar).

PESTLE focuses on the external factors that can affect a business. Itā€™s a great way of horizon scanning for emerging risks.

From my experiences, one of the greatest sources of shock to a business (positive and negative) is regulatory change.

Hereā€™s an example:

At the end of the 1990s, Microsoft was unstoppable.

Well ā€¦ until lawmakers stepped in.

The US government successfully alleged that Microsoft had built an illegal monopoly and was effectively forcing PC makers to use their operating system.

Heavy restrictions followed in how Microsoft was able to market and bundle new features. They adapted eventually but lost a decade doing so.

Their share price fell 75% from its peak in 1999 to its trough in 2009. If you are interested more in this story, it was brilliantly covered in the Acquired podcast.

And now Google faces the same uncertainty following a landmark ruling this week. A US judge ruled in favor of the DOJ allegation that Google holds an illegal monopoly over search.

It remains to be seen what the remedies are, but the future of Googleā€™s business hangs in the balance, while its decided.

These are earth-shattering issues for the businesses in question. But the effects can come from less direct sources too. Environmental impacts and political instability will have equally large impacts on some businesses.

And the effects are often complex. There are second and third-order effects of PESTLE factors. Which can turn what seems to be a threat into an opportunity (or vice versa).

Here is a nice application of PESTLE to the Nike business. 

You should see PESTLE as upstream from the SWOT analysis. Your business should be horizon-scanning issues across the PESTLE spectrum to identify things that might need to be included in the bottom half of the SWOT analysis (Opportunities or Threats).

As CFO you will have a heavy influence on the PESTLE (and may need to lead it). The business will be looking to you as the ā€œin-house economist,ā€ whether you are well qualified for the role or not.

Making sure you have your finger on the pulse of what is happening in the economy is important. But that doesnā€™t mean your thoughts should be limited to the ā€˜Eā€™ of the PESTLE. All of the other components could influence the economy itself, or indeed your businessesā€™ cash flows.

You need to build enough commercial savvy, understanding of your businesses, and wider awareness to understand the PESTLE factors that could influence your business.

And most importantly, you need to form a point of view on how they will affect the finances of the business.

Competitive Positioning

This one is my favorite. A timeless model from Michael Porter that I still use every day.

Competitive Positioning

Source: Michael Porter

The Porter Competitive Positioning model says that in order to compete a business must do one of three things:

  1. Differentiate: Make your product different/better vs. competitors (or perceived to be)

  2. Cost leadership: Make your product cheaper vs. competitors

  3. Narrow focus: Niche down into a narrow segment until you can find space where you can do 1 or 2

Failure to do one of these three things leaves you ā€˜stuck in the middle.ā€™ Strategic no-manā€™s land. A slow deathā€¦ if you are lucky.

Cost leadership is impossible to do without scale, as itā€™s not enough to simply charge lower prices. You need to have the lowest cost base to sustain those prices.

So the most common entry strategy for startups is either:

  • Premiumization of the market: ā€˜Flankingā€™ the competition with a new standard of quality to appeal to customers with fatter wallets

  • Focusing hard on a specific niche: Appealing directly to the needs of a specific, smaller, segment, that it is hard for bigger incumbents to service

Which is how you end up with businesses like 8-Sleep (i.e. $3,000 mattresses for tech nerds and bio-hackers who want to optimize every part of their existence).

Another way of thinking about this:

Cost vs. differentiation is not a dichotomy. Itā€™s more of a frontier. You need to be operating on that frontier to be truly competitive.

This is how the grocery market has room for Costco, Walmart, and Aldi. All of whom would claim to be cost leaders in their specific niche, servicing different customer needs:

  • Costco: Cheapest for bulk items.

  • Walmart: Cheapest across a broad shopping cart. (Full range assortment.)

  • Aldi: Cheapest across a narrow shopping cart of essentials. (Limited range assortment.)

The magic in this model is unlocked when a business can tie this positioning to a specific competence or unique advantage it has.

The impact of your competitive position on margins and unit economics is vast. This topic is so important that next weekā€™s post will be dedicated to it.

Porterā€™s genius also extended to his 5 forces model (for competition) and value chain analysis. Both are nearly as brilliant as the competitive positioning model and are well worth understanding.

Sidenote on Michael Porter

Strategy Canvas

Blue Ocean Strategy by RenƩe Mauborgne and W. Chan Kim is a modern classic. Written in 2004, it focuses on opening new markets (blue oceans) where there is no competition. And avoiding red oceans where competition is intense.

So, how do you find these blue oceans?

The tool introduced by the book is called the ā€˜Strategy Canvas.ā€™

It ranks your product and your competitorsā€™ products against each key product feature important to your customers.

Here is an example using the online education market. Masterclass launched in 2015, and by 2020 had already reached more than $100m of annual recurring revenue. I donā€™t know what those numbers are today, but Iā€™ll bet it grew quickly during COVID. 

How did it find a blue ocean in a market as crowded as online education?

Master Class

Where traditional online courses focused on a huge breadth of content from largely nameless creators, Masterclass did the opposite.

A wafer thin library of content. It launched with only 3 courses for beginners:

  • Tennis drills

  • Acting

  • Writing a book

But hereā€™s the point of difference. They used the best people in their field for the courses:

  • Serena Williams for tennis

  • Dustin Hoffman for acting

  • James Patterson for writing

They didnā€™t bother with accreditations and certifications. If you have Gary Kasparov as your chess coach, you donā€™t need the name of some arbitrary professional body on a certificate.

Add in cinematic quality and it made for an incomparable experience.

Masterclass found their blue ocean.

So did Apple with the iPhone in the 2000s. They sacrificed buttons, price point, and business applications (initially at least) for ease of use and a world of options through the app store.

Apple

Source: Blue Ocean Strategy

You can see the strategy canvas as a way of finding a unique market for your business.

If you want to read more, this post is great.

Note, this model is more for marketers and product people than it is for CFOs. But if you want to be a great CFO, you need to understand your products and your business. And what makes it special.

Those marketing and product development expense budgets that feel oh so easy to cut, might not feel quite so discretionary once you understand what your businessā€™s superpower is.

Business must continuously invest behind the things that make them special.

7 Powers

Those who listen to the Acquired podcast will be familiar with Hamilton Helmerā€™s 7 Powers.

This is a relatively new model. The book was first written in 2016. Helmer theorized that durable competitive advantage can come from one of 7 sources:

  1. Scale economies

  2. Network economies

  3. Counter positioning

  4. Switching costs

  5. Branding

  6. Cornered resource

  7. Process power

The 7 powers model has become popular in Silicon Valley as it highlights the areas where there are opportunities to build real moats. Focusing on the source of those moats, rather than their impact (as Porterā€™s model does).

And here is a nice chart showing where you find the best examples of each of those 7 powers being exploited:

Source: Quartr

If you want to hear Hamilton Helmer himself describing the 7 powers to the Acquired boys, check this out.

Again, it shouldnā€™t be the CFO leading this kind of work, but if you do find yourself in a role leading a strategic process (which you might), this is another useful tool.

This model can be very useful for directing strategic investment. These are the things that allow businesses to earn superior margins. Itā€™s what makes them special.

With that in mind, a good strategic CFO will see the value in investing heavily to maintain, and ideally deepen these powers. Even if the direct payback is not obvious.

It would take a brave CFO to cut the brand marketing budget for LVMH, or an unwise CFO to do anything that compromises Metaā€™s network effect.

These are the five frameworks I find most useful in solving strategic problems. How you apply them will depend on your business and your role.

They are tools for your toolbox to help you apply the 7 strategic responsibilities of the CFO we discussed last week.

Next week, we will start to get more practical with these toolsā€¦ and dive into how they overlap with strategic unit economics.

Bottom
Bottom Line SCFO

  1. Itā€™s better to know a small number of strategic frameworks well, rather than know many superficially

  2. Knowing them well means being able to apply them in the wild, not just quote them from a textbook

  3. By understanding what truly makes your business special, you can use that as a compass for directing investment. Feed the machine.

Footnotes

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And Finally

Next week weā€™ll dive deeper into how strategy influences the P&L. Iā€™m excited about this one.

If you enjoyed todayā€™s content, donā€™t forget to check out this weekā€™s sponsor Vic.ai.

Stay crispy,

The Secret CFO

Disclaimer: I am not your accountant, investment advisor, tax advisor, lawyer, CFO, director, or friend. Well, maybe Iā€™m your friend, but I am not any of those other things. Everything I publish represents my opinions only, not advice. And certainly is not investment advice. Running the finances for a company is serious business, and you should take the proper advice you need.

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