by C.K. Prahalad and Venkat Ramaswamy

Book Excerpt | The Future Of Competition – How to Put Your Customers to Work

Apr 15, 200416 mins

Managers are under intense pressure to create value. But value creation by improving operational efficiency?through such initiatives as outsourcing, business process reengineering and workforce reduction?has limits in terms of morale and potential. Companies must couple such efficiencies with innovation and new business development. Internally generated profitable growth is at a premium. Even the best companies have struggled to create new markets or sustain a high rate of commercially successful innovations. C.K. Prahalad, professor of business administration, and Venkat Ramaswamy, professor of marketing, both at the Michigan Business School, contend in their new book, The Future of Competition, that companies need not (and should not) go it alone when trying to create value. Their research suggests an emerging economic model of value cocreation, in which consumers and companies routinely collaborate to create value that, to a large extent, is personalized to the individual. This excerpt explains that concept.

Variety Does Not Equal Value

A profound (but silent) transformation of our society is afoot. Our industrial system is generating more goods and services than at any point in history, delivered through an ever-growing number of channels. Superstores, boutiques, online retailers and discount stores proliferate, offering thousands of distinct products and services. This product variety is overwhelming to consumers. Am I buying the right digital camera? Am I getting the best treatment for my chronic ulcer? Am I signing up for the right service? Simultaneously, thanks to the propagation of cell phones, websites and media channels, consumers have increased access to more information, at greater speed and lower cost, than ever before. But who has the leisure and the proficiency needed to sort through and evaluate all these products and services? The burgeoning complexity of offerings, as well as the associated risks and rewards, confound and frustrate most time-starved consumers. Product variety has not necessarily resulted in better consumer experiences.

For senior management, the situation is no better. Advances in digitization, biotechnology and smart materials are increasing opportunities to create fundamentally new products and services and transform businesses. Major discontinuities in the competitive landscape?ubiquitous connectivity, globalization, industry deregulation and technology convergence ?are blurring industry boundaries and product definitions. These discontinuities are releasing worldwide flows of information, capital, products and ideas, allowing nontraditional competitors to upend the status quo. At the same time, competition is intensifying and profit margins are shrinking. Managers can no longer focus solely on costs, product and process quality, speed, and efficiency. For profitable growth, managers must also strive for new sources of innovation and creativity.

Thus, the paradox of the 21st-century economy: Consumers have more choices that yield less satisfaction. Top management has more strategic options that yield less value. Are we on the cusp of a new industrial system with traits different from those we take for granted?

The emerging reality forces us to reexamine the traditional system of company-centric value creation that has served us so well over the past 100 years. We now need a new frame of reference for value creation. The answer, we believe, lies in a different premise centered on cocreation of value. It begins with the changing role of the consumer in the industrial system.

The Power of the Connected Consumer

The most basic change has been a shift in the role of the consumer?from isolated to connected, from unaware to informed, from passive to active. The impact of the connected, informed and active consumer is manifest in many ways. Let us examine some of them.

Information Access With access to unprecedented amounts of information, knowledgeable consumers can make more informed decisions. For companies accustomed to restricting the flow of information to consumers, this shift is radical. Millions of networked consumers are now collectively challenging the traditions of industries as varied as entertainment, financial services and health care.

For instance, active health-care consumers (no longer the passive recipients of treatment, a.k.a. patients) are using the Internet to learn about diseases and treatments; the track records of doctors, hospitals and clinics; and the latest clinical drug trials and experimental procedures?and to share their personal experiences with others. Consumers can now question their physicians more aggressively and participate more fully in their own treatment modalities.

Global View Consumers can also access information on businesses, products, technologies, performance, prices and consumer actions and reactions from around the world. Twenty years ago, the two car dealerships (General Motors and Ford) in small towns in North America would probably have influenced the driving aspirations of a local teenager. Today, a teen anywhere can dream about owning one of more than 700 car models listed on the Internet, creating a serious gap between what is immediately available in the neighborhood and what is most desirable.

Geographical limits on information still exist, but they are eroding fast, changing the rules of business competition. For example, broader consumer scrutiny of product range, price and performance across geographic borders is limiting multinational companies’ freedom to vary the price or quality of products from one location to another.

Networking Human beings have a natural desire to coalesce around common interests, needs and experiences. The explosion of the Internet and advances in messaging and telephony?the number of mobile phone users is already over one billion?is fueling this desire, creating an unparalleled ease and openness of communication among consumers. Consequently, “thematic consumer communities,” in which individuals share ideas and feelings without regard for geographic or social barriers, are revolutionizing emerging markets and transforming established ones.

The power of consumer communities comes from their independence from the company. In the pharmaceutical industry, for instance, word of mouth about actual consumer experiences with a drug, and not its claimed benefits, is increasingly affecting patient demands. Thus, consumer networking inverts the traditional top-down pattern of marketing communications.

Experimentation Consumers can also use the Internet to experiment with and develop products, especially digital ones. Consider MP3, the compression standard for encoding digital audio developed by a student, Karlheinz Brandenburg, and released to the public by the Fraunhofer Institute in Germany. Once technology-savvy consumers began experimenting with MP3, a veritable audio-file-sharing movement surged to challenge the music industry. The collective genius of software users the world over has similarly enabled the codevelopment of such popular products as the Apache Web server software and the Linux operating system.

Of course, the Internet facilitates consumer sharing in nondigital spheres as well: Aspiring chefs swap recipes, gardening enthusiasts share tips on growing organic vegetables, and homeowners share insights into home improvements. More crucial, consumer networks allow proxy experimentation?that is, learning from the experiences of others. The diversity of informed consumers around the world creates a wide base of skills, sophistication and interests that any individual can tap into.

Activism As people learn, they can better discriminate when making choices; and, as they network, they embolden each other to act and speak out. Consumers increasingly provide unsolicited feedback to companies and to each other. Already, hundreds of websites are perpetuating consumer activism, many targeting specific companies and brands. America Online’s AOL Watch, for example, posts complaints from former and current AOL customers. Blogs (Web logs), which present an individual’s worldview through texts, images and Web links, facilitate public expression and debate.

The Web has also become a powerful tool by which groups focused on issues such as child labor and environmental protection seek corporate and governmental attention and promote reforms. Consumer advocacy through online groups may have an even greater impact than company marketing. When Novartis AG launched clinical trials of a promising leukemia drug, Gleevec, word spread so fast on the Internet that the company was inundated by demand from patients wanting to participate. Activism by leukemia patients who were on the early clinical trials for this drug led to a highly effective lobbying effort via Internet support groups to speed up its production and even get the Food and Drug Administration to expedite its approval.

What is the net result of the changing role of consumers? Companies can no longer act autonomously?designing products, developing production processes, crafting marketing messages and controlling sales channels?with little or no interference from consumers. Consumers now seek to exercise their influence in every part of the business system. Armed with new tools and dissatisfied with available choices, consumers want to interact with firms and thereby cocreate value. The use of interaction as a basis for cocreation is at the crux of our emerging reality.

Consumer-Company Interactions: Smashing Assumptions

Consider the evolution of the health-care industry. Innovations in pharmaceuticals, biotechnology, nutrition, cosmetics and alternative therapies are creating various treatment modalities and transforming our concepts of health. As both consumers and technologies advance, traditional medicine (curing sickness), preventive medicine and improvements in the quality of life are rapidly merging into a “wellness space.” Let us examine the changing dynamics of interaction between a consumer and the organizations that participate in the wellness space.

Twenty years ago, when I was feeling ill and visited my doctor, I might have undergone a battery of tests that would have informed my doctor’s diagnosis, which he would explain to me only if he had to. He would then choose a treatment modality, prescribe some medications and schedule a follow-up examination. Health care back then was generally doctor-centric, just as commerce was company-centric. Doctors thought that they knew how to treat me, and since I wasn’t a physician myself, I probably agreed. Similarly, most businesses figured that they knew how to create customer value?and most customers agreed.

Now, the health-care process is far more complex. As soon as I feel ill, I can tap into the expertise and experience of other patients and health-care professionals. I can access an abundance of information, some of it reliable, some not. I can investigate alternative treatments for any condition and develop an opinion about what might and might not work for me.

Ultimately, I can cut my own path through the wellness space, thereby constructing a personal wellness portfolio. If I’m grappling with high cholesterol, then I can include pharmaceuticals for blood pressure and cholesterol approved by the FDA, health supplements not approved by the FDA, a fitness regimen developed with an instructor and genetic screening for hereditary heart disease.

Notice that my wellness portfolio does not fit neatly into any traditional industry classification. Yes, I visit my doctor. I get tests and medications and submit the bills to my medical insurance, provided through my employer. But other services in my wellness portfolio fall outside the conventional doctor-based health care, pharmaceutical or insurance industries. My wellness space springs from my view of wellness, my biases, values, expertise, preferences, expectations, experiences and financial wherewithal. My spouse, meanwhile, can construct her own wellness portfolio.

Rather than rely solely on my doctors’ expertise, I can seek experts among my peers?other health-care consumers?organized into thematic communities, such as a high-cholesterol group. This networked knowledge encompasses not just the medical aspects pertinent to my condition but its sociology, psychology and likely impact on me, my family and the community at large.

These consumer-company interactions in the wellness space fundamentally challenge two deeply embedded, traditional business assumptions: 1. that any given company or industry can create value unilaterally; and 2. that value resides exclusively in the company’s or industry’s products and services. What new concepts do we need to understand the implications of the emerging pattern of interactions between consumers and the company?

Cocreation in Action

Let us stay in the medical field and look at cardiac pacemakers, which we believe is a prototype of the emerging process of value creation. Millions of adults in the United States suffer from various cardiac maladies. Many of them could get a pacemaker that monitors and manages their heart rhythm and performance, a valuable benefit. However, a patient’s comfort level would increase substantially if someone or something monitored his heart remotely and alerted him and his doctor simultaneously of any deviations from a predetermined bandwidth of performance relevant to his condition. Doctor and patient together could decide on the remedial response.

The scenario gets more complicated when the patient travels far from home. A mere alert will not suffice. The patient needs directions to the best nearby hospital, and the attending physician needs access to the patient’s medical history. How do the two doctors?the patient’s primary care provider back home and the physician on call at the out-of-town hospital?coordinate their diagnosis and treatment? Should the patient call his spouse? How can the patient recognize and assess the risks and develop an approach to compliance and cooperation with these medical professionals? Are the doctors, the facilities and services, and the pacemaker all part of a network centered on the patient and his well-being?

Companies are already installing elements of these network capabilities. Consider Medtronic Inc., a world leader in cardiac rhythm management that seeks to offer lifelong solutions for patients with chronic heart disease. It has developed a system of “virtual office visits” that enables physicians to check patients’ implanted cardiac devices via the Internet. With the Medtronic CareLink Monitor, the patient can collect data by holding a small antenna over his implanted device. The data is captured by the antenna, downloaded by the monitor and transmitted by a standard telephone line to the Medtronic CareLink Network. On a dedicated secure website, physicians can review patient data and patients can check on their own conditions?but no one else’s?and grant access to family members or other caregivers.

Medtronic’s CareLink system goes beyond the cardiac device itself and unleashes opportunities for an expanding range of value-creation activities. For example, each person’s heart responds to stimulation slightly differently, and the response can change over time. In the future, doctors will be able to respond to such changes by adjusting the patient’s pacemaker remotely. Furthermore, Medtronic’s technology platform can support a wide range of devices and remote monitoring/diagnostic systems, potentially used for monitoring blood sugar readings, brain activity, blood pressure and other important physiological measures.

Now, as a manager, consider the following questions:

1. How does the patient actively participate in the process of cocreating value?

2. How does the quality of the patient’s interactions with the doctor, the family and the staff of the out-of-town hospital affect the quality of the patient’s overall experience?

3. What is the basis of value creation here? What role does the total network of related products, services and caregivers play in creating value? How can any one of them create unique value with the patient at any given point in time? What if the patient values the whole experience cocreated with the network, and not simply with the pacemaker?

4. How does the network’s ability to accommodate different situations affect the patient experience?different time and location of the event of an irregular heartbeat? Can the same individual have a different experience with the network under different circumstances, depending on the context of the event and his personal preferences at that moment in time?

5. Can companies create an environment that generates experience variety without burdening the consumer with a variety of products and services?

The pacemaker story illustrates the new value creation space: A competitive space centered on personalized cocreation experiences developed through purposeful interactions between the consumer and a network of companies and consumer communities.

Value does not stem from the physical product (the pacemaker), or from the communications and IT network that supports the system, and not even from the social and skill network that includes doctors, hospitals, the family and the broader consumer community. Value lies in the cocreation experience of a specific patient, at a specific point in time, in a specific location, in the context of a specific event.

The cocreation experience cannot occur without a network of firms collaborating to create the environment that allows the patient to undergo that unique cocreation experience. The network, not owned by any single firm, multiplies the value of the pacemaker to the patient, his family and his doctors. The patient, by cocreating with the network, is an active stakeholder in defining the interaction and the context of the event. The total cocreation experience with the network results in value that is more personal and unique for each individual.

To see and take advantage of these opportunities, we must suspend the traditional distinction between B2B and B2C customers. In the world of cocreation, we have to imagine every individual who interacts with the company as a “consumer,” whether that individual is a forklift operator, a pilot, a design engineer, a beautician, a clinical researcher, an instructor, a contractor, a paralegal or a civic worker. This perspective forces us to discard the artificial distinctions among enterprises and households. Furthermore, historically we have started with “B”?our business?and not the individual consumer. This company-centric view of value creation is deep-rooted, as it has been the very foundation of competition in the industrial era.

The New Frame of Reference

If the consumer and the firm cocreate value, then the cocreation experience becomes the very basis of value. This suggests new capabilities for firms. Managers must attend to the quality of cocreation experiences, not just to the quality of the firm’s products and processes. Quality depends on the infrastructure for interaction between companies and consumers, oriented around the capacity to create a variety of experiences. The firm must efficiently innovate “experience environments” that enable a diversity of cocreation experiences. It must build a flexible “experience network” that allows individuals to coconstruct and personalize their experiences. Eventually, the roles of the company and the consumer converge toward a unique cocreation experience, or an “experience of one.”

Notice what cocreation is not. It is neither the transfer nor outsourcing of activities to customers, nor a marginal customization of products and services. Nor is it a scripting or staging of customer events around the firm’s various offerings. That kind of company-customer interaction no longer satisfies most consumers today.

The change that we are describing is far more fundamental. It involves the cocreation of value through personalized interactions that are meaningful and sensitive to a specific consumer. The cocreation experience (not the offering) is the basis of unique value for each individual. The market begins to resemble a forum organized around individuals and their cocreation experiences rather than around passive pockets of demand for the firm’s offerings.

Recognizing that the traditional system is becoming obsolete, many firms are already testing new business assumptions, preparing to compete on the basis of those personalized cocreation experiences that result in value truly unique to each individual.