When Setting Strategy, Remember Your Vowels
by Matt, on 18 May 2021
The first early stage venture I helped lead manufactured tools for use in oil and gas wells.
Part of the manufacturing process involved cutting pipe to specific lengths and then machining threads and other features into the pipe body. This required precision and repeatability but was something that numerous specialty machine shops could handle.
Our growth strategy involved building a facility to make critical and trade secret components while entrusting the pipe cutting and machining to third parties.
At the time, machine shop capacity was readily available. It made no sense to invest our limited growth capital in mills and lathes when the tools we needed were sitting underutilized in nearby workshops, staffed with experienced machinists.
Eighteen months later, the oilfield boomed and all that idle capacity evaporated.
Lead times for our externally machined parts leapt from a couple of weeks to more than three months. We quickly began to lose sales because we couldn’t fulfill orders in time.
We caught a huge break when the economy took a dip and the oil price crashed. It gave us a year to build out our own machine shop and regain control over our supply chain – even though we continued to outsource a significant portion of our machining needs.
Where did we go wrong, and how might we have approached things differently?
Hindsight is always 20/20, of course, but let’s focus on our assumption that third party machine shop capacity would be sufficient to meet our needs. Although this example is an oversimplification since other flawed assumptions contributed to the situation, it will serve the purposes of this post.
The Five Vowels Framework
To surface potentially risky assumptions and ensure you follow a robust strategy,use our AEIOU framework.
A - Assumptions
At the heart of every strategy lies a set of assumptions.
You can’t know everything about your business, the market into which you sell, your competitors, or the macro environment that routinely throws your world into chaos.
The acronym VUCA has been popularized in recent years. It stands for Volatility, Uncertainty, Complexity, and Ambiguity, and was first used in the late 1980s and early 1990s by the US Army War College in response to the collapse of the USSR.
VUCA helps frame scenarios and sets the stage for strategy, planning, and leading.
VUCA highlights the importance of preparing for alternative realities and understanding the consequences of interrelated issues and actions.
Your first challenge when setting strategy is to identify the assumptions you are making about both current reality and how the future might unfold.
E - Evidence
What evidence do you have to support the assumptions you’re making?
Asking this question forces us to surface and document the facts, beliefs, and opinions underlying our decision making.
This is where having people in the room with different points of view adds value. They may bring different data to the table or have a different interpretation of the same data by virtue of their beliefs, experience, and opinions.
The evidence to support a particular assumption might be incomplete. That’s okay. If the data were rock solid, we’d be talking about something certain and not call it an assumption to begin with.
I - Implications
Next, consider what the implications might be if your assumptions turn out to be flawed.
It’s helpful to prompt this discussion with words like More, Less, Faster, Slower, Early, Late, Reverse, and Other (plus whatever guide words are best suited to your type of business).
For example, what is the implication to our decision not to build in-house machining capability if there is less third-party capacity available? What if there is more available?
Identifying plausible alternative outcomes that have material – usually negative – consequences for your business is key to developing a robust strategy.
O - Optionality
Having identified the potential detours that your business might take if some of your assumptions turn out to be wrong, ask what options you might put in place to help keep the business on track.
Affectionately known as “Plan B” – but frequently also involving plans C, D, and beyond – this optionality is what differentiates a robust strategy from a “hit and hope.”
Pursuing a single strategy with no contingency plans and fingers crossed that all works out well is seldom a winning approach.
But building in optionality usually costs more money.
Keeping additional resources on hand “just in case” – whether that means people, equipment, materials, or just a rainy-day fund – flies in the face of just-in-time, lean, highly optimized business strategy.
A healthy dose of leadership experience is needed to decide which options are worth purchasing and which to go without.
U - Upshot
Which brings us to our final vowel and the upshot of your analysis.
With as many assumptions documented as possible, implications analyzed, and the potential for optionality assessed and prioritized, it’s time to pick a game plan and set the wheels in motion.
Although you still can’t know what will happen, you’re in a much better position to observe for deviations from the plan and then react to them.
Paraphrasing the German field marshal, Moltke the Elder, “no strategy survives first contact with the enemy.”
As soon as reality differs enough from what you had expected to render one or more of your assumptions incorrect and have a negative impact on your business, it’s time to circle the leadership wagons and revisit. This might be anything from a week later to six months later, or more.
Which of your options should you activate to nudge the business back onto a favorable path?
Which assumptions need to be updated based on new data and recent learnings?
What new options will you put in place to deal with future deviations from your updated set of assumptions?
Ex. 1 - Revisiting the Machine Shop
Applying the Five Vowels framework to the machine shop example, we might get something like this:
A – Assumptions
- There is sufficient third-party machine shop capacity to support our needs, so we should not build our own machining capability.
E – Evidence
- There are a half-dozen specialty machine shops within an acceptable distance from our facility and all of them have quoted two-week delivery times.
- The oil and gas industry has grown slowly over the past couple of years and experts (or are they pundits?) are predicting similar growth rates for the next few years.
I – Implications
- More – additional machine shop capacity coming onto the market will only improve our situation and lower our cost of goods.
- Less – reduced machine shop capacity would drive up our cost of goods and potentially stretch out lead times. This could negatively impact our ability to fulfill orders, causing us to miss our revenue targets and run short of cash.
- Other – an unexpected demand for machine shop capacity coming from a sector we aren’t currently monitoring could have a similar impact as ‘Less’.
O – Optionality
- We could build more finished goods inventory to provide a buffer against extended lead times. This will tie up working capital and would require us to forecast which tool sizes we’re likely to need in the future (difficult for an early-stage business to do). It would also only provide a stop-gap solution – any sustained increase in lead times would eventually deplete our inventory and leave us unable to fulfill orders in a timely manner.
- We could build a small machine shop to help fill urgent orders if third-party lead times increase. This will tie up capital, although we could finance some of the equipment using lease-purchase agreements or a bank loan. We will also incur payroll costs for machinists.
- We could sign minimum purchase contracts with third party machine shops to lock-in some of their capacity, ensuring our urgent orders can always be met irrespective of how much work the shop receives from other customers. This will increase our cost of goods and/or cause us to build equipment for stock.
U – Upshot
- Even if there is abundant third-party machining capacity now, the oil and gas industry is notorious for its short boom-and-bust cycles. Our nascent business could be seriously threatened if we were suddenly faced with extended lead times and unable to fill clients’ orders.
- This is sufficient to justify investing in a small machine shop and tying up a little more working capital in finished goods inventory than we otherwise might.
As humans, we are horribly biased by hindsight, so it’s impossible to say whether this analysis would have led to us adopting a different strategy. But, we would have been better prepared to respond.
Ex. 2 - Investing in Digital Customer Experience Technology
Here’s another apocryphal example that’s close to our heart at Strategic Piece.
A – Assumptions
- Investing in an end-to-end digital customer experience isn’t a priority for us. The product we make is high-value, which means senior leader buy-in is required before a purchase order can be issued. Our product is highly customizable. As a result, it will continue to require in-person sales and a lot of bespoke interaction before selling to a new customer.
E - Evidence
- This is how we’ve always sold the product and we don’t see a reason to change.
- Our competitors are still spending heavily on in-person sales and haven’t changed, even during the COVID pandemic.
I – Implications
- Faster – If our customers adopt digital purchasing behaviors faster than we expect, we might not be – or continue to be – their preferred supplier. This would slow our sales growth and cause us to miss revenue targets.
- Reverse – If our competitors reverse their approach and go all-in on digital processes, they might gain a first-mover advantage over us. We would have to scramble to catch up if customers preferred their digital approach over our traditional process. We would see a drop in sales and miss revenue targets.
O – Optionality
- We could investigate digital tools and develop a game plan for implementing them in short order if we see a trigger in the market. This would only cost us some staff time to develop the plan.
- We could begin developing a digital sales platform in parallel with continuing our current approach. This need not be rushed but could be accelerated if we see a trigger in the market. This would cost us more staff time and some investment in software and supporting technology.
- We could proactively move to a digital sales approach, even though our customers haven’t yet demanded one, ensuring that we are ahead of the curve and our competition. This contradicts our base case assumption and would be a large at-risk investment that isn’t currently justified based on market evidence.
U – Upshot
- Based on this analysis, it’s worth baking the first two options into the strategy. We will begin by evaluating digital tools and approaches and formulating an implementation strategy. Once that is completed, we will allocate budget to pursuing the preferred digital approach, even if the market hasn’t yet signaled that it’s a requirement.
In this case, the original assumption would lead the company to ignore digital warning signs and leave it vulnerable to a sudden change in customer behavior (likely, in the current B2B climate), a shift in competitor behavior, or disruption by a new entrant (not currently active in the sector) equipped with digital processes.
Having assessed the implications of those scenarios, the leadership team can justify investing staff time and budget in preparing for – and later, beginning to implement – digital processes as a contingency, even though they aren’t yet ready to go fully digital as their primary strategy.
Wait, Aren’t There Six Vowels?
Experts say that the letter Y represents a vowel 97.5% of the time and a consonant 2.5% of the time (usually called a glide, as in yellow, yacht, yam or yesterday).
However, I haven’t come up with a useful Y-word to add to my strategy framework.
Comment your best ideas below or email them to me at email@example.com. If I receive a truly great suggestion, we might adopt it and update this post to include it!
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