Advisory literature is abundant of suggestions about different millennial consumer preferences and how FMCG companies should embrace agile and technology to make them more appealing for this growing consumer group. Much has been done by FMCG “externally” to align their product offerings with these trends. E-commerce, consumer engagement through social networks, customer journeys are the new norm.
However, behind the mountain of books and articles about consumer centricity, omnichannel, healthy and ethical choices, etc. you would find very little information about the required internal FMCG organisation. Yet, the internal value generation capabilities play a major, if not the most important, role in the ability of FMCG company to withstand and quickly adapt to the disrupting forces of changing consumer market.
In this episode of my blog series of How FMCG Companies could reinvent their Shared Service Centre organisations, I would like to talk about the evolution of the internal capabilities of FMCG companies and how they help companies generate value.
Typical symptoms of an unhealthy situation
"All organisations are perfectly designed for the results they get." W.E. Deming
Imagine Company "A", a typical example of a proven traditional FMCG operating model. If it happened for you to work in this industry, you would easily recognise the well-known common patterns. Its operating model designed around aggressive scale and cost reduction. As any other FMCG company nowadays, Company "A" has a global Shared Service Centre (SSC). When created, it meant to provide a multitude of value-added services in the areas of HR, Finance and IT to business teams in countries and regions to help them with gaining a competitive advantage. In reality, a significant share of the SSC value achieved by executing the same services from locations where the labour cost is lower. In other words, via labour cost reduction.
This SSC model is fully aligned to “exploit” the traditional FMCG model of mass-scale and low cost. With cost reduction having its economic and human limits, this could not be a sustainable solution for the long-term.
So, why is a typical FMCG SSC could not provide more business value? Several fundamental reasons could be roughly grouped into four domains:
Systems, with their complex processes suffocated by outdated technologies,
People, that are disengaged and lacking end-to-end ownership,
Organisation, with its strong hierarchical structures, and finally
Culture of preservation and lack of experimentation
It is no surprise that these SSC problems are limiting the ability of Company "A" to innovate and grow, which might also restrict the company's attractiveness not only for new customers but also for talent.
Organisational shortcomings
The cost optimisation strategy and its labour arbitrage practices (outsourcing) led to too many internal capabilities moved to offshore and external providers. Notwithstanding the positive effects that could be achieved when outsourcing is applied correctly, the Company “A” was not designed as a modular company ready to be outsourced at the time when SSC was formed. The existing functional hierarchy was split along the functional areas like Finance, HR and IT. Hence, this simple transfer of ownership solidified the pre-existing organisational design. So with the time, SSC has found itself locked in traditional highly hierarchical, bureaucratic command-and-control structure, where direction cascades from leadership to middle management and then to disempowered team members. This hyper-specialisation (silo) among many teams and lots of hand-off points often causing inter-dependency gridlocks, very high coordination costs and finger-pointing from one group to another. The market forces behind partnership agreements between SSC and its service providers (SIs) alone cannot manage the coordination of such an advance, owing to the complex, poorly understood, and tacit nature of the coordination challenge, and the associated bargaining costs that arise from this (Chesbrough, 2005).
What is more, SSC exists a cost centre and mandatory use of their services and removal of staff from business units created a monopoly situation that is not designed for quality and value improvement. So, business unit managers are trapped with the lack of a transparent system of SSC costs attribution and inability of improving quality of SSC services. There is no surprise they show low adoption for centrally mandated services and often reserve for creation of “shadowing services”.
Culture as a change inhibitor
Organisational culture plays a pivotal role in making organisations what they are, help explain their success or failures. Many years ago, with a focus on business process efficiency and costs reduction, Company "A" had adopted a mantra to do everything "the right first time." This simple slogan, having been invented in good faith, created a massive risk-averse culture within an organisation, where nothing decided without involving the extensive management hierarchy. This "rule by committee" with numerous approvals needed to do even a small change led to a culture with a significant lack of ownership and proliferation of "groupthink".
Limitations in Systems and Technology assets
Technology architecture in Company “A” has many common deficiencies shared among other FMCG firms. Years of accumulated tech debt with limited success, overlapping and duplicating solutions created complex data divergence that is causing massive trust issues in IT solutions resulting in never-ending and resource-consuming data reconciliations.
With the principal focus on cost reduction, but also due to the organisational shortcomings from the early SSC formation (see above), the upgrade of technology infrastructure has not been a priority. Instead, many adjustments introduced to address the acute business needs have made the technology landscape very complicated and difficult to understand. As a result, this outdated monolithic architecture with many built-in interdependencies led to frequent breakdowns, data errors and delays in the release of new features. Preoccupation on “keeping the lights on” tasks, lack of customer focus and slow issue resolution (“bottlenecks”) forced markets into the creation of their own "Shadow IT" teams and proliferation of custom, non-integrated solutions across many geographies. While this phenomenon is also a sign of innovation happening in markets, these sporadic activities, if not appropriately managed, create duplication and frustrate central teams with low user adoption of their mandated solutions.
The bandwagon effects
The difference between ordinary and extraordinary is just that little “extra”
One may argue that problems with SSC should not be generalised for the whole organisation and that Company “A” is very successful through superior business model and requires nothing to change. However, the history of the S&P500 list of best-performing companies shows that the company's past does not warrant its future (Finch, 2019). In this section, I will try to convince why it is time for a change.
There is an observation that "companies fail to reinvent themselves not necessarily because they are bad at fixing what is broken, but because they invest most of their energy into the management of their existing operations” (Nunes & Breene, 2011).
You could visualise the company’s ability to respond to the new business opportunity using performance S-curves, the metaphorical bandwagons of progress. A distinct four phases characterise each performance S-curve. It starts with much lower performance and proceeds through “Era of ferment” experiments until the natural selection process would choose a “dominant design”. Then the “winner takes it all” effect creates an explosive growth of performance. Finally, as more and more players jump to exploit the opportunity, the steam runs out, and business opportunity reaches a “plateau” phase to become a common practice.
So, by inventing or recognising a new opportunity, companies could jump from one S-curve to another. These moves would then contribute to the progress of the whole sector or industry they operate. Those companies that, for some reason, decide not to “jump” to another curve more often stagnate and with time disappear (e.g. Kodak, Nokia, Ericsson).
History knows a few good examples of successions of one S-curve by another. Change from radio to BW TV and then to Colour TV had a significant impact on the ability of FMCG companies to mass-promote their products and contributed to the creation of the current FMCG operating model after WWII (Fig. 1). In fact, both the existing operating model for SSC and the traditional FMCG operating model are both s-curves of organisational design. They even share one common characteristic – they are both resource-based models. Both exploit the fact that some companies have better access to limited resources so they could offer better or cheaper products.
This order of things, however, is changing. According to McKinsey consultants, the aggregation (mass-market products) and arbitrage (outsourcing) practices used by FMCG companies are no longer able to provide the required performance growth (Kelly, et al., 2018). Much of the recent poor performance of big mass-manufacturing corporations is related to the challenge of new technology-driven business models (Strong, 2018). Apparently, smaller and more agile companies with net income under $2bn grew at twice the rate of their larger counterparts with net revenue greater than $8bn.
Hence, something has to be done to shake up the current status quo in operating models established for SSCs and jump on the bandwagon of an agile operating model. But how to do that? How could an organisation faced with disruption find its way to compete in mature businesses where continual process improvement and cost reduction are often the keys to success (Tushman, et al., 2002)? How to behave like a small company, driven by knowledge and empowered by technology whilst keeping the investors and shareholders happy?
Many FMCG companies indeed tried various ways to be ambidextrous by either creating new agile units that would act as a start-up alongside the more traditional business or simply acquired already established start-up business into their corporate structure. Both ways have their risks and difficulties, while the value realisation is very questionable.
What are the alternatives?
On a very high level, it is relatively simple - companies could achieve a competitive advantage in two distinct ways (Tushman, et al., 2002):
Use of superior resources to address new markets and customer sets, and
Development of new capabilities
With resource-based operating model failing, the only alternative for Company “A” would reflect its ability to pivot in response to changing consumer preferences. What is more, these preferences and associated business opportunities for FMCG companies are not distributed evenly across the globe, and they do vary significantly in character between different markets with their respective consumer practices, cultures and customs. How could Company “A” succeed in this very diverse environment?
McKinsey consultants believe that with an operating model for consumer goods manufacturers changing rapidly in response to shifting consumer needs and pressure from their traditional partners, to win in the coming decades, FMCG companies need to embrace an agile operating model (Kelly, et al., 2018).
So, they did. In early 2002, Watts Humphrey, the visionary author of Capability Maturity Model (CMM) of Carnegie Mellon, claimed that “Every Business Is a Software Business” (Humphrey, 2002). Since then, over the next two decades, with the help of many books, articles, and influencer talks many FMCG companies tried to be agile by directly adopting the operating models from the very successful tech companies, like Amazon, Google, Microsoft and many more agile natives like Netflix and Spotify.
With intentions behind going agile being right, why then performance pursuit in many companies like our Company "A" is not very successful? The primary root cause of the failure is the blind adoption of whatever current "best practices" to their organisation (Pisano, 2015).
Indeed, organisations looking to reinvent themselves, instead of blindly following the "best practices" of somebody else should do at least two things. First, they must determine how the innovation strategy will create value for potential customers. And second, they must decide how they will capture this value and which types of innovation to pursue (Pisano, 2015).
Dynamic capabilities model of value generation
FMCG companies should not go far to search for answers to how to create value for their customers. Their front-office teams are fully aware of the power of better customer alignment, consumer intimacy and personalisation as they do this externally. For that, they employ various ways of collecting and analysing customer feedback. Now back-office teams in SSC should follow suit and adopt the same approach for their internal customers. While previously back-office departments were concerned primarily about costs and efficiency, they now need to concentrate on outcomes and internal customer service, still delivered most effectively and efficiently.
Using customer feedback for IT application development is not new. Many of you are familiar with agile software development model, its principles, organisation and routines. I’m not going to describe it here in detail. The overall idea behind the 12 principles in the agile manifesto is a continuous listening and reaction to customer feedback (the infinite improvement loop). What is essential, however, is how this model could be extended beyond the IT quarters and adjusted to more traditional back-office departments of SSCs, like Finance.
Finance people do not write or release code. Hence the blunt, direct copy & paste of IT operating model with its agile methods and governance would do more harm for Finance function than good. Instead, by recognising the different capabilities and competencies that form Financial function, the different lifecycles that exist there, we would be able to differentiate our transformation approach.
First, FMCG companies should re-design their business architecture by bringing back in-house their business architecture capabilities. To do this would require reversing some of the earlier decisions of outsourcing these capabilities to consulting partners and SIs. The new modular business architecture design would provide a blueprint for the creation of building blocks (capabilities) and orchestrating platform as the basis for the future. This modularity blueprint would guide the transformation of existing functional areas, like Finance into a much more dynamic organisation.
Second, using the modularity blueprint, all functional areas of SSC should be reconfigured based on personal preferences. For example, using four personality types (analytical, driver, amiable, and expressive) in addition to specialisation would reduce change resistance later.
For example, the primary function of Finance that sits behind the much visible routine accounting and statutory reporting (CORE) is to provide connectivity and integration between various parts of the organisation (ORCHESTRATION). Like a nerve signalling system of a live organism, finance function reacts to life threats and other everyday challenges (ENGAGEMENT) by orchestrating the response of available capabilities (Fig.2).
So, the future Finance organisation would be split across the following cross-functional teams:
CORE – these teams perform transactional Finance. Given these repetitive routine tasks are mostly by accounting standards and statutory requirements, these activities should be outsourced or highly automated (RPA, ML)
CAPABILITY – these are specialised cross-functional teams organised around narrow business domains (Revenue, Costs, Overheads, Assets, Working Capital, etc.) These small and relatively stable teams follow the agile methodology to produce and continuously improve a well defined and interoperable product. The DevOps organisation of these teams mean that they design, build and then operate and improve their products using a direct customer feedback loop. This work would be better suited for analytical personalities, that like number crunching and have deep domain expertise (specialists).
ORCHESTRATION – these are teams of “internal consultants” that have a wide range of business understanding (versatilists). These teams are only formed as short period projects to resolve a particular business problem or business opportunity. They integrate and use existing capabilities to develop a novel business applications
To help you envisage the innovation model of SSC, you can refer to the very successful innovation model of “endless possibilities” – the LEGO system. Since its creation in 1949, the design of simple, standardised building blocks could enable you to create almost everything you can imagine.
Similarly, the new operating model for SSC would resemble the LEGO system, where relatively stable individual business capabilities like revenue management, spend analytics, and working capital management are combined dynamically for a short period to address the acute business problem (Fig. 3). The post-factum analysis of the response, if successful, would form the knowledge basis for the new business capabilities being created, while failure would be used as a learning exercise for future applications.
This Dynamic Capabilities model would provide "the ability to integrate, build, and reconfigure internal and external competences to address rapidly changing environments" (Teece, et al., 1997). What is more, the standardised nature of small but interoperable building blocks would reduce duplication and allow SSC to achieve massive agility without losing the achieved cost-benefit.
In the next episode of this blog series, we will take a deep dive into the dynamic capabilities framework. We would see how the orchestration of capabilities would work in practice and help create a system of value capture.