Finally, a Way to Put Your Internet Portfolio in Order

Three years ago, Sun Microsystems decided to move its entire business onto the Internet. But it faced a major obstacle. The company was simultaneously pursuing more than 100 Internet initiatives spread across seven business units. It had five separate on-line stores, including a software store, a Java store, an education store, a service store, and an add-on components store. Its sites ran on different systems, reflected different content and design guidelines, and incorporated different registration methods, search engines, and navigation protocols. The welter of uncoordinated projects confused customers, aggravated employees, and wasted money. Most damaging of all, it stood as a roadblock to a unified strategy. Sun decided to take action. President and COO Ed Zander announced companywide goals for the Internet, explicitly tying them to managers’ compensation. He consolidated the business units and combined their on-line budgets, and established a new unit, eSun, to oversee the company’s entire Internet portfolio. ESun’s first charge was to take a complete inventory of the company’s initiatives, evaluating them against a standard set of criteria that included both quantitative measures, such as value-creation potential, sales cycle time, and human resource requirements, and qualitative measures, such as consistency with Sun’s culture and values. On the basis of the analysis, the company quickly rationalized its Internet efforts, killing a number of projects outright, redesigning others, and combining many more. It ended up with a coordinated, manageable portfolio of approximately 15 initiatives. Thanks to its new strategy, Sun is now well on its way in advancing its Internet strategy. In late 2000, its Web revenues were ten times higher than in 1999, and 90 % of its site visitors were using on-line information to make purchase decisions. Investors have rewarded Sun smartly, pushing its stock price up more than 150 % between October 1999 and October 2000. Many companies today are in the same position Sun was in three years ago. Eager to capitalize on the Internet’s potential and afraid of being overtaken by upstarts, they have allowed scores of on-line projects to bubble up throughout their organizations. In my consulting work, I have seen many large companies try to juggle literally hundreds of Internet initiatives, usually with little success. One large financial institution I worked with had some 400 Internet plays, which collectively generated losses of more than $ 500 million annually. Another company, a global services firm, has more than 300 efforts under way. It doesn’t even know the total amount it is spending on them, but it guesses that each project has cost between $ 50,000 and $ 2 million. (For more about the common flaws in Internet strategies, see the sidebar “Three Paths to Failure.”) Three Paths to Failure No business investment is ever a sure bet. Executives know that economic and competitive conditions change, often in unexpected ways, and they take those uncertainties into account when they analyze potential expenditures. But with the Internet, unpredictability rises to a whole new level. It’s impossible to foresee how entire industries and markets will be defined, much less project their ultimate economic and competitive characteristics. In this environment, even the most robust traditional planning tools fall short. As a result, companies often make one of three mistakes in allocating their Internet investments: Let a thousand flowers bloom. The most common error is to spread investments too wide and thin by funding projects indiscriminately. It’s one thing to encourage experimentation in your organization; it’s another to throw money at every experiment that pops up in the hope that a few will flourish. An untended garden produces only weeds. Bet it all. Some companies take exactly the opposite approach. Bedazzled by projections of a vast and wide-open market, they devote all their money and time to a single high-stakes initiative. The fundamental uncertainty of the Internet, however, makes any individual bet extremely risky. If you wager it all, you’re likely to lose it all. Trend-surf. In the face of uncertainty, it’s all too easy to follow the crowd toward the next big thing. This tendency to trend-surf has certainly guided a lot of Internet investments as companies have pursued, in turn, corporate Web sites, business-to-consumer sites, business-to-business e-markets, mobile commerce, and storage. In each case, too much capital ends up pursuing too few opportunities, and most companies come away empty-handed. A better way is to invest in a limited number of initiatives representing different levels of risk and opportunity. You may sacrifice some upside potential with a conservative portfolio approach, but you’ll avoid a whole lot of downside risk. Such a haphazard approach to investment may have seemed justified back when investors gave extravagant valuations to all manner of Internet start-ups. Then, the prospect of a single successful spinout appeared to outweigh the reality of dozens of money-losing ventures. Today, however, throwing money at the Internet is neither justifiable nor sustainable. Companies need a more disciplined approach. Like Sun, they need to manage their Internet initiatives strategically, as a balanced portfolio shaped by rigorous and consistent business criteria. In this article, I lay out a framework for doing just that. Developed through more than 100 consulting projects with companies ranging from start-ups to industry leaders, the framework draws on traditional thinking about portfolio strategy but also reflects the unique characteristics of Internet business. It provides a means for evaluating individual Internet initiatives as well as for creating a balanced portfolio that raises the odds of achieving an attractive return on overall investment. A New Take on Portfolio Strategy At its core, classical portfolio strategy is about the selective allocation of limited resources. By investing in a carefully constructed portfolio of diversified businesses, companies are able to reap higher and more consistent returns over the long run. The best portfolios reduce risk by balancing investments with different characteristics, combining, for example, long-term, speculative investments in new, potentially high-growth businesses with short-term investments in existing, profit-making businesses. Over the years, numerous planning frameworks have been developed to aid companies in managing portfolios, the most famous being the Boston Consulting Group’s growth/share matrix with its cash cows, stars, question marks, and dogs. All these frameworks reflect a common assumption: that the value-creation potential of a business can be assessed by analyzing its market position within its industry together with the overall attractiveness of the industry. The Internet changes many things about business, but it does not change the need for a structured and balanced approach to investment. Indeed, the broad nature of Internet opportunities, from improvements in operating efficiency to inventions of entirely new business models and even industries, makes it more important than ever to think comprehensively about the whole investment portfolio. But if the value of portfolio thinking remains intact, the traditional approaches to portfolio analysis need to be revamped for the digital age. Several key differences between Internet business and traditional business render the old frameworks obsolete. First and foremost, the evolution of e-business remains unpredictable—a fact underscored by the dizzying volatility in the stock prices of Internet companies. Because Internet markets remain in such flux, it is impossible to gauge with any certainty a particular business’s future market position. And without reliable data on market position, traditional planning frameworks become meaningless. Related to the uncertainty is the speed with which market conditions change. Traditional portfolio approaches assume long planning cycles, usually looking out at least five years and often as many as ten. An Internet portfolio, by contrast, must be reevaluated and adjusted every few months. Finally, traditional approaches are biased toward incremental investments in existing businesses. Because they presuppose the existence of well-defined industries with relatively stable economic and competitive traits, they do not even anticipate the kind of business-creation possibilities the Internet has opened. (See the exhibit “A Comparison of Classical Portfolio Planning and Internet Portfolio Planning.”) A Comparison of Classical Portfolio Planning and Internet Portfolio Planning The bottom line is that much of the market and industry data that underpin traditional portfolio analysis are unavailable for the Internet space. The analysis of on-line initiatives must by necessity take into account softer, more qualitative information. In the planning framework I present here, therefore, market position and industry attractiveness are replaced with business viability and business fit. Viability captures the available quantitative data about an investment’s likely payoff. Fit is qualitative; it measures the degree to which an investment dovetails with a company’s existing processes, capabilities, and culture. The choice of these two criteria reflects a simple but crucial observation about companies’ ability to capitalize on Internet opportunities: as important as the hard assets a company can bring to bear (such as financial capital and brand equity) is the company’s cultural, organizational, and managerial adaptability. As many executives have discovered in trying to digitize their businesses, it is just as foolhardy to invest in an attractive opportunity that you can’t pull off as it is to invest in an unattractive opportunity that you can pull off. The Internet Portfolio Map By evaluating all Internet initiatives for viability and fit, a company can think practically and holistically about its digital portfolio. Such thinking can be shown visually by plotting each initiative on a simple matrix—what I call an “Internet portfolio map.” As shown in the exhibit below, the vertical axis of the matrix indicates the level of viability, while the horizontal axis indicates fit. By dividing the matrix into four quadrants, a company gains a rough guide to the best strategic course for each initiative: invest more in it, redesign it, sell it or spin it out, or kill it. For example, an initiative that rates high on viability but low on fit is an obvious candidate to spin out, while one that rates high on fit but low on viability may warrant a redesign to try to improve its economic prospects. As with all such frameworks, the Internet portfolio map is not intended to dictate a course of action; rather, its value lies in providing a structured and consistent way to assess a group of investments. The choices a company ultimately makes will hinge on its particular goals and circumstances. A Map for the Net A company can use this simple matrix to help set a strategic course for its Internet initiatives. The vertical axis of the matrix indicates the initiative’s viability (potential payoff), while the horizontal axis indicates fit (an investment’s potential to dovetail with a company’s existing processes, capabilities, and culture). Using qualitative and quantitative measures to assess viability and fit, a company can then plot its initiatives on the map, which will suggest whether each should be invested in, redesigned, sold or spun out, or killed. A Map for the Net To illustrate how a portfolio map is created, let’s look at a hypothetical beverage company called Universal Soda. Universal has ten different Internet projects in planning or under way, ranging from a business-to-business site for taking orders from wholesalers and retailers, to a Web store for selling branded merchandise to consumers, to a lifestyle portal for kids, to a recruiting site. To evaluate the projects, it has developed sets of criteria for evaluating viability and fit. For viability, it uses four quantitative criteria ranked on 100-point scales: For fit, Universal uses five qualitative criteria—alignment with core capabilities, alignment with the company’s other initiatives, fit with organizational structure, fit with company’s culture and values, and ease of technical implementation—that are ranked along a subjective three-point scale: low, medium, or high. Universal tabulates the scores for each initiative to arrive at average measures for viability and fit, as shown in the exhibit “Assessing Universal Soda’s Internet Initiatives.” It then uses the averages to plot the ten initiatives on its Internet portfolio map, as shown in the exhibit “Universal Soda’s Portfolio Map.” The map reveals, for example, that three of the company’s potential investments—an on-line delivery-scheduling system (2), a B2B procurement site (4), and a brand-licensing initiative (9)—don’t align with the company’s strengths or have much potential in the market; they should be killed. It also shows that the company has five initiatives that look attractive for further investment as well as two that might be spun out. Universal’s managers now have important information they can use to weigh the relative merits of these seven opportunities against the company’s available financial capital and human resources to create a rational, staged investment plan. Assessing Universal Soda’s Internet Initiatives * Higher scores always reflect favorable benefits. For example, high “personnel requirement” scores mean that fewer people are needed. Assessing Universal Soda’s Internet Initiatives Universal Soda’s Portfolio Map In order to map a portfolio of Internet initiatives, opportunities need to be assessed for their potential viability and fit. Quantitative measures like market-value potential and funding requirements will help determine an investment’s viability, or likely payoff. Qualitative measures like alignment with core capabilities and organizational culture and values will indicate overall fit—the likelihood of an investment working with a company’s existing processes, capabilities, and culture. The averages for these measures are then plotted on a matrix (at right). Universal Soda’s portfolio map shows that three of the company’s potential investments—an on-line delivery system (2), a B2B procurement site (4), and a brand-licensing initiative (9) don’t align with the company’s strengths or have much potential in the market; they should be killed. It also shows that the company has five initiatives that look attractive for further investment as well as two that might be spun out. Universal Soda’s Portfolio Map As the example implies, one of the most important tasks for management is to choose the right measures for viability and fit. The quantitative and qualitative measures that Universal Soda used, particularly market-value potential, personnel requirements, and capability fit, will be employed by most companies. In some cases, however, additional measures, such as speed of implementation, may be critical. In deciding which measures to emphasize, companies can follow a few simple guidelines. First, the size and maturity of a company matter a lot. For larger companies with more entrenched processes and cultures, the qualitative measures of organizational and cultural fit are often more important than the quantitative capital funding or near-term cash flow needs. Conversely, for a new venture with more limited capital resources and a nascent organizational structure, quantitative metrics usually matter more. Second, if the initiative involves developing a new business model or entering a new industry, its market-value potential and speed of implementation will typically carry more weight. Finally, for larger portfolios, the ability to leverage capabilities and other potential synergies among initiatives should be carefully assessed. A Matter of Balance Most Internet opportunities fall into one of two general categories: those that can make a company’s core business more efficient, called core investments, and those that can transform a company’s business, called transformative investments. In Universal Soda’s case, the recruiting site (6) is an example of a core investment. Its payoff lies in improving the effectiveness of a traditional corporate function, either by reducing the cost of recruiting or by expanding the company’s access to talent. The children’s lifestyle portal (8), by contrast, is a transformative investment. It would bring the company into an entirely new business realm. While the portal might promote sales of the company’s existing products, its potential, should it eventually become a popular on-line community for children, goes far beyond the marketing of soda. One of the reasons companies have trouble making sound decisions about Internet investments is the radically different nature of core and transformative opportunities. It’s difficult to balance an incremental investment in an efficiency improvement with a speculative investment that could fundamentally change the nature of your company. Part of the power of the Internet portfolio map is that it uses a common set of measures to evaluate both types of initiatives. Once you see how the opportunities stack up in terms of their viability and fit, you are in a much better position to start making trade-offs among them. It’s hard to balance an incremental investment in an efficiency improvement with a speculative investment that could fundamentally change the nature of your company. That doesn’t mean that the trade-offs will be easy. Different companies will need to strike different balances between their core and transformative investments. A company in a stagnant industry with weak growth prospects, for example, would likely be seeking a breakout strategy. As a result, it would want to put more emphasis on transformative ventures. Yet if that same company has a bureaucratic, risk-averse culture, it may find that entrepreneurial initiatives fit poorly with its organization and thus should warrant relatively conservative investments. The resolution of such tensions cannot be reduced to a formula. But while it’s impossible to provide a one-size-fits-all solution for achieving a strong and balanced portfolio, it is possible to offer some rules of thumb. It is the rare company, for example, that can simultaneously pursue dozens of different initiatives. Based on my consulting experience, I recommend that large companies limit themselves to between ten and 15 projects. More than that, and they risk spreading their resources too thin, creating redundant work, and confusing their people. In the early stages of an Internet strategy, moreover, most of the initiatives—75 % , say—should focus on strengthening the core. Because core initiatives are, for obvious reasons, more likely to fit with a company’s existing capabilities, concentrating on them enables an organization to build its digital skills with relatively low risk. As this learning takes place, the more transformative opportunities will begin to move to the right on the “fit” axis, increasing the likelihood of their success. Over time, therefore, a company can shift its mix from the core to the transformative. When Sun Microsystems rationalized its portfolio, for example, most of the initiatives that made it through the screen were focused on enhancing the core business. Among other initiatives, the company consolidated its consumer stores into a single Sun-Store site, launched a customizable MySun portal for corporate clients, rolled out an on-line configuration tool that allows customers to design their own systems, and set up partnerships with eBay, TekSell, and Mercata to run Internet auctions to sell new and used products. But Sun didn’t overlook transformative opportunities. It placed a number of more speculative bets with very high-potential payoffs. It has, for instance, continued to find ways to leverage its Jini software to achieve an early-mover advantage in providing applications for new Internet devices, such as Web-enabled phones, digital assistants, and appliances. It also invested in a capacity-on-demand (COD) initiative that may have potential as a spinout. This initiative “predeploys”excess processing capacity to customers, at no immediate incremental cost to them and at low marginal cost to Sun. With one click, a customer can request additional processing power, and it is brought on-line immediately. No technical teams need to be deployed to the client’s site, the Sun account manager can be automatically credited for the additional sale, and the customer pays only for what it needs, when it needs it. Sun’s role in the COD effort is analogous to the role of a telephone company’s central switching office—a central provisioner of services based on variable demand needs. Because the COD system delivers value to both the manufacturer and the customer, it could be the basis for a lucrative business in its own right. Building on Tradition at Gordon Brothers To demonstrate the flexibility of the portfolio map in helping companies balance their investments, let’s look at how two very different enterprises—Gordon Brothers Group (GBG), a large, well-established family business, and 3Plex, a small dot-com start-up—have used it. GBG, a privately held company founded in 1903 and headquartered in Boston, is one of the largest asset disposition companies in the United States; last year, it closed down some 1,800 retail stores, liquidating inventories worth nearly $ 5 billion. The company has long used portfolio planning. Over the last dozen years, it has created 12 diverse businesses, sold one of them (to FleetBoston), and shut down two. So in 1998, when GBG turned its attention to Internet opportunities, it came as no surprise that it wanted to use the Internet portfolio map to aid it in parceling out its investments. Under the leadership of CEO Michael Frieze, who represents the third generation in his family to head GBG, and Gage Andrews, the company’s chief Internet strategist, GBG established an e-commerce committee to analyze the new threats and opportunities raised by the Internet. One of the committee’s first tasks was to identify ideas for expanding into on-line markets. It was a fruitful exercise, producing a list of both core and transformative initiatives that appeared to have real potential. The core projects included the consolidation of all the company’s on-line marketing initiatives to create one, unified marketing Web site, and the development of an extranet that would allow faster and cheaper deployment of information on merchandise placement, pricing changes, and other operational matters to the field staff working at the retail stores. The transformative options included several business-to-business and business-to-consumer plays. The company contemplated, for example, opening an on-line exchange (RetailExchange.com) that would create a more efficient marketplace for the owners of excess inventory and other retailers that might need those products. GBG also saw opportunities to launch an on-line business (SmartBargains.com) that would sell surplus inventory directly to consumers, to build an e-tailing technology platform and sell it to on-line stores looking to reduce their operating costs, and to extend its liquidation business to e-tailing by helping failing on-line stores dispose of their assets. When GBG plotted these six opportunities on its Internet portfolio map, its investment choices became clearer, as shown in the exhibit “Gordon Brothers’ Portfolio Map.” The two core initiatives—the marketing Web site and the extranet—rated high on both viability and fit; they were clearly worth pursuing. More challenging was deciding among the transformative ideas. Because the company did not have a lot of e-commerce experience, all of the projects scored low on fit. One of them, the on-line real estate liquidator, scored low on viability, because other companies already had competitive advantages in this area. GBG killed this idea. It also killed the technology platform concept. Although the market opportunity was attractive, seizing it would have required the development of a sophisticated new technology, which was well outside the company’s traditional capabilities. Gordon Brothers’ Portfolio Map Gordon Brothers Group (GBG), one of the largest asset disposition companies in the United States, used this portfolio map to aid it in parceling out its Internet investments. The map was instrumental in the company’s decision to go ahead with a corporate marketing site, a field extranet, and an initiative called RetailExchange. Though both RetailExchange and SmartBargains scored similarly on fit, Retail-Exchange scored slightly higher on viability, so the company decided to delay the SmartBargains initiative. And while the e-tailing technology platform showed high viability, it was not a good fit because it would require developing a sophisticated new technology well outside the company’s traditional capabilities. Gordon Brothers’ Portfolio Map That left the company with two transformative opportunities, RetailExchange and SmartBargains, both of which appeared to have high potential as spinouts. Because it had limited personnel and resources for its Internet strategy, GBG did not want to pursue both efforts simultaneously. While both scored similarly on fit, Retail-Exchange scored higher on viability, reflecting its greater synergies with the company’s core business. As a result, the company decided to invest immediately in RetailExchange but to hold off on SmartBargains. RetailExchange was spun out, with separate management and its own capital structure. (Located in Gordon Brothers headquarters, however, it maintained close ties to GBG.) So far, GBG’s strategy has proven successful. The core initiatives are delivering real efficiency gains. The field extranet has obviated the need for costly courier services and, more important, it has enabled the company to achieve a higher return on investment by delivering information more quickly to the field. (In the retail liquidation business, the faster you can dispose of goods, the higher your gross margin.) The unified marketing site paid for itself almost immediately. Within three days of its launch, a new client contacted the company through the site. That one new account paid for the entire site development three times over. As for RetailExchange, it raised $ 44 million in venture capital from 3i, Internet Capital Group, and other investors, and in the short time it has been operating, it has gained thousands of members and put more than $ 500 million worth of products on sale. The success of RetailExchange in attracting investment and talent allowed GBG to devote more resources to SmartBargains, accelerating its launch as a stand-alone company. That venture has now raised $ 33 million in seed funding and has already struck a deal with America Online to be featured in Shop@AOL. Indeed, important synergies have developed between these two ventures. A significant portion of the products initially sold through SmartBargains were sourced from RetailExchange. While some of GBG’s own employees have left to join these two spinouts, CEO Frieze displays enthusiasm rather than disappointment over this development. “We see ourselves as a 97-year-old start-up,” he says. “We need to place thoughtful bets across a portfolio in a way that not only provides strong returns but creates real excitement among our people.” Though it barely had a corporate home page two years ago, GBG is today generating considerable value from its small but diverse Internet portfolio. A Start-Up Portfolio for 3Plex The value of portfolio mapping is not limited to big companies. It can also help entrepreneurs sort through and refine potential business models. In the case of one recent start-up, 3Plex, a portfolio map actually helped define the company’s direction—indeed, it turned the founders’ original vision on its head. Portfolio mapping can also help entrepreneurs sort through and refine potential business models. When Harvard Business School students Ben Gordon and Tania Yannas sat down in November 1999 to write their business plan for TruckItNow.com—as it was then called—they envisioned a business-to-business marketplace where shippers could bid on transport services from an array of carriers. The two co-founders hoped to capitalize on the inefficiencies in the purchase of domestic transport—a market that accounts for $ 500 billion in annual spending. But even though their original idea seemed to hold considerable promise, they wanted to explore two other options. The first was to become an application service provider (ASP), selling software to third-party logistics providers on a subscription basis. The second was to become an outsourcer of transportation brokerage. Other business-to-business markets would put a 3Plex “ship-it button” on their ordering pages, allowing their customers to access a 3Plex service for arranging transport for their purchases. To assess the relative attractiveness of the three business models, Gordon and Yannas plotted them on a portfolio map. To gauge the viability of the models, they used three quantitative measures: market-value potential, funding requirements, and personnel requirements (they had a limited pool of seed financing). To determine fit, they focused on the ease of technical execution and alignment with the capabilities they had or thought they could build in the near term. The resulting map is shown in the exhibit “3Plex’s Portfolio Map.” 3Plex’s Portfolio Map When business school students Ben Gordon and Tania Yannas started 3Plex in 1999, they envisioned three possible business models: a business-to-business marketplace where shippers could bid on transport services from an array of carriers, an ASP that would sell software to third-party logistics providers on a subscription basis, and an out-sourcer of transportation brokerage. After measuring the viability and fit of all three options, the cofounders realized that the original shipper-carrier marketplace concept was much too complex; it scored low on both viability and fit. Becoming an outsourcer of transportation brokerage (the “ship-it button” model) showed promising growth potential, but not in the near term. The ASP model, which would be easier to roll out and had a much better chance of creating barriers against competitors, looked promising on all counts, so 3Plex pushed ahead with that initiative. 3Plex’s Portfolio Map Their simple analysis revealed two major flaws in the original shipper-carrier marketplace concept. In addition to having less market-value potential than they had anticipated, the idea had high execution risks. The transport value chain is extremely complex, with more than 50 steps from the moment a shipper initiates an order to the moment the freight is delivered and paid for. The technical challenge of automating all 50 steps lay beyond 3Plex’s capabilities. The cofounders decided to kill this idea rather than sink more of their limited capital into it. The ASP model proved to hold numerous advantages over the marketplace model. Enabling third-party logistics intermediaries to automate their business processes represented more of a niche strategy, but it would be much simpler to roll out and had a much better chance of creating barriers against competitors. As a result, it scored high on both viability and fit, and Gordon and Yannas decided to invest in it aggressively. The decision marked a 180-degree shift in the company’s business model: instead of creating an on-line exchange that bypassed existing middlemen, 3Plex created a service that empowered the middlemen. The “ship-it button” model also scored fairly high on both viability and fit. Over the long term, as business-to-business e-commerce expanded, it seemed to offer impressive growth potential. In the near term, however, its value-creation potential seemed small. Rather than attempt to launch this model simultaneously with the ASP model—and risk overextending their young company—the cofounders decided to incubate it slowly, making small investments in prototyping and market testing. The soundness of 3Plex’s choices will be revealed only over time, but the early results have been promising. Shortly after it shifted its business model, it raised $ 15 million in venture capital from a group of investors that included Polaris, Morgan Stanley, and Goldman Sachs. And of the first 20 potential clients the company met with after the repositioning, ten signed letters of intent to contract for the application service. Old Process, New Tools The challenges that managers and entrepreneurs face in trying to capitalize on the Internet are complex and often daunting. But they do not require a whole new approach to business. Success on the Internet hinges as much on applying traditional management discipline as on staying knowledgeable on the latest (and usually ephemeral) Internet trends and technologies. What changes in the Internet era is not the way you plan your investments but the tools you use. Indeed, the process of generating new investment options, categorizing them in consistent ways, and evaluating them against coherent and meaningful criteria is something that successful companies have always done. What changes in the Internet era is not the way you plan your investments but the tools you use. An Internet portfolio map can be one of the most useful new tools, focusing executives on what will always be the most important challenge in plotting strategy: allocating scarce resources among competing opportunities.

Finally, a Way to Put Your Internet Portfolio in Order

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