Adventure of Strategy

S-Curves have been used to describe anything from demand for new toys, to allocation of resources in a project, to Mozart's symphony production, to the popularity of a new movie star, to bacteria populations in petri-dishes, to the life cycle of different professional services. They have been around as an economics or strategy tool since at least 1930, when Kuznets described their use in plotting production and prices.

They are also one of the most useful tools in the professional service firm strategist's toolbox

As a mathematical model, the curve is very well known and it has a defined mathematical formula:

for real parameters a, m, n, and τ. Over the decades, the S-Curve has been used several times, incorrectly, to predict the Earth's maximum human population. Each time, the predicted maximum population has been surpassed. Today, there is not enough known to be able to determine whether the AIDS pandemic is leveling off, or just entering its real growth phase. To use the curve as a precise mathematical tool, precise data is required. All too often, this data is only available historically, after the fact.

Often, therefore, the curve is used more as a mathematical metaphor, to illustrate the life cycle of a phenomenon that starts off slow, then grows rapidly, tapers or levels off, and then finally declines. Depending on the accuracy and relevance of the underlying assumptions, this can be a highly effective strategic analysis tool, or not.

The tool does lend itself well to analyzing the professional services being delivered by a firm. In any firm that is awake, there is generally a reasonably good understanding of whether a service is emerging, growing rapidly, maturing or declining. Accuracy to five decimal places is not necessary. A reasonable understanding of where the service falls along the curve is usually sufficient for the strategist to make an informed decision regarding the options.

A typical S-curve is presented in figure 1, showing the four distinct phases. Figure 1 also shows the likely profitability of a service, according to its position on the curve. During the "learning curve" of the emergent phase, ROI is typically negative unless the services are being directly funded by a client (in which case ROI is negative for the client.) Profitability peaks during the growth phase and then levels off and declines as more competitors enter the market and clients become more price sensitive.

Knowing where each of your firm's service offering lie along that life cycle, and where they are likely to be in the foreseeable future, is therefore a critical aspect of competitive intelligence. Figure 2 illustrates the critical decision points along the curve, and figure 3 illustrates the danger of either over or under-estimating forecasting, according to the point that the phenomenon being plotted occurs on the curve.

In some cases, the life cycle moves very slowly. In others, it can be very fast and can suddenly move to the next stage of the cycle as a result of one of the players in the market introducing an innovation that disrupts the cycle, or through a change in the market rendering the entire service obsolete. A competitor may find a way to deliver a service that is currently highly profitable for far less, for instance through leveraging with technology or outsourcing to India. Or an entire area might become obsolete (video cassette recorders, horse drawn carriages or anti-apartheid) leading to the immediate decline and extinction of that area of service.

Figure 1 : The S-Curve illustrating cost per transaction and profit over time

Stage 1: EMERGENT

During this stage, new services are evolving to meet brand new, emerging client needs. The service may even relate to a client need that is still at the research and development ("R&D") phase. Just about every engagement requires a substantial amount of innovative and original thought, and precedents are few. It is difficult to price services accurately because it is difficult to determine beforehand, how much input will be required. For clients, it is usual for the service being provided not to be profitable at this stage and for this reason they tend to be cost sensitive.

Stage 2 : GROWTH

This stage emerges once the new service becomes entrenched and more firms start offering the service. Revenues increase and the service becomes profitable. As profits rise, so more clients enter the market too, and the overall demand for services in the area increases too. For firms that were early entrants, this can be an extremely profitable phase.

Stage 3 : MATURITY

Maturity is reached once a critical mass of clients and service providers are active in a particular area. Revenues plateau as sales growth slows and then levels off. Competition of price becomes more pronounced as more and more firms reach the point where they can offer a good quality service. (Quality requirements on the part of the clients do not taper off; it is a matter of supply and demand.)

Stage 4 : DECLINING

Stage 4 is radically different to the previous three, as the trend reverses from growth to decay. Oversupply in the market leads to a reduction in the number of players and competition on price becomes extreme. There are two specific variants in this segment. The first is where the service has become highly commoditized but is not disappearing from the market. Examples in legal services would be conveyancing work, debt collection and the more commoditized aspects of family law. Here, the process factories that specialize in low margin, high volume work, and the small firms that minimize overheads, can still compete. In some cases extremely profitably. The second is where the service itself is indeed disappearing completely. Here the only sensible strategy is to focus elsewhere and exit as soon as possible.

Figure 2 : The dangers of over- or under-forecasting according to the position on the curve

Forecasting is a particular challenge to the strategist. During the emergent phase, there is not really enough data to support forecasting. Once growth takes off, forecasts tend to be over ambitious as the growth tend accelerates. Conversely, once the curve levels off and declines, there is a tendency to under-estimate the aging effect on the curve. The result is that all too often, the firm only exist a service once the fact that it is actually losing more money than it is making out of that service is too obvious to ignore.

Figure 3: Critical decision points on the S-Curve.

CRITICAL DECISION POINTS ON THE S-CURVE

Figure 3 illustrates the five critical decision points for the strategist, along the S-Curve. The numbers "1" and "2" indicate two generic types of firm, where 'Type 1' firms operate according to a differentiated strategy that relies on clients paying premium rates for superior services, and 'Type 2' firms operate according to a cost leadership strategy that relies on being able to offer the same services as competitors at a lower cost per transaction, so that the same profit margin is achieved at a lower cost to client. In Type 1 firms, innovation is aimed at superior services and service delivery. In Type 2 firms, innovation is aimed at driving down the cost per transaction while maintaining quality levels.

The critical decision points are as follows:

A - Point of Emergence

This is the point at which a new service appears to be emerging and the first-mover firm needs to decide whether it is an area that it is going to try to develop further. This stage is characterized by few competitors and highly customized work.

B - Commencement of Growth Phase

This is the point that firms that choose not to be first-movers need to be on the lookout for. Because both profitability and the number of competitors grows rapidly during this phase, the quicker the firm can make the call that the new service or practice area is sustainable and attractive, the greater will be the competitive advantage achieved.

C - The "Knee"

This is a critical point where the curve turns from being concave, to convex. Growth, although still positive, starts slowing and more and more competitors enter the market. It is now that Type 1 firms start looking for new services at point A or B, with the intent to exit these services or practice areas one they reach point D and the profitability driver moves to cost leadership. Type 2 firms start entering the market now. Those Type 2 firms that are most strategy-savvy immediately start looking aggressively for ways to cut the costs of the service, to reduce competition from Type 1 firms and widen profit margins.

D - Maturity

From this point on it is usually not profitable for Type 1 firms to operate in the market any longer. This because their firm is geared to premium costs (the best people and other resources, to be able to deliver superior services at a premium price) so they cannot compete with Type 2 firms that are specifically geared to lower cost structures. Those Type 1 firms that are still offering the service during this phase are usually doing so at a loss, though this fact may be well hidden depending on how the firm measures performance. In fact, even Type 2 firms start looking for new service areas to enter at this point, where the emergent service is above the knee and therefore well established.

E - Replacement by New Service

At this point, the service is replaced by a new emergent service (or technology, or trend) and the old service becomes a niche or disappears completely. The number of competitors tails of dramatically, and margins may even increase if it reduces to the point where demand outstrips supply again. (There are still horseshoe blacksmiths and gas-lamp manufacturers in the world.)

SHORTCOMINGS OF THE S-CURVE

One of the criticisms that has been leveled at the service life cycle is that it is difficult to demonstrate using empirical evidence. It has already been noted that accurate data, where it does become available, is usually only after the fact. There are also difficulties in pinning down the exact causal effects that cause a service to move from one segment to the next. That notwithstanding, it has been a cornerstone of management thinking for decades and is an extremely useful tool to understand the profitability drivers for the different services that a firm might offer. Used together with experience curve analysis (described in the next section,) which does have a solid empirical grounding, it forms the basis of the Boston Consulting Group's well-known Growth / Market Share Portfolio Matrix.

Kuznets S., 1930. Secular movements in production and prices. Houghton & Mifflin, Boston

ummm - figure 1 seems to show a woman screaming or being strangled or something, not an s-curve

Thanks for pointing that out. Must have been a 'glitch' from when Lexblog updated their systems. Now fixed.