Janet Stone, the founder and managing director of Case Consult Pty (Ltd)*, was once again up at 4am pouring herself coffee and pondering the future of her business.
For the past six months the cycle had been the same, she would wake in the early hours of the morning and lie in bed thinking about customers, employees, new products and strategic options for her business. Eventually she would get up and either try to distract herself by checking email or messing around in Excel, trying to figure out a solution for the business.
CaseConsult specialises in developing technology solutions for companies in the real estate industry. The business has two core software products, one that enables real estate agents to market properties utilising an integrated web and cell phone technology and another that enables estate agents to manage a portfolio of rental properties for clients.
CaseConsult employs 15 people; five are sales and client orientated, five focus on technology and product development and the remaining five are in administrative roles. At the helm of each team is a manager and Janet heads up the management team.
CaseConsult was founded in 2003 and initially comprised just two people working on a very simple technology product.
During five years of strong growth, more people were employed, more sophisticated products were developed and the company built up a healthy cash reserve. Then, in 2008 the property market began tightening up and estate agents stopped spending money on technology. Now, 12 months into this downturn, Janet is seriously concerned about the future of her company.
Janet’s worries are not unique.
Janet Stone and CaseConsult Pty (Ltd) are fictitious and are used in this scenario to illustrate real business issues within the current economic environment.
All across the world people are asking how bad can this get? For many the economic meltdown is terrifying – jobs are being lost, investment portfolios have all but disappeared and a number of once profitable high profile corporations are turning to their governments for lifelines.
For the business owner the uncertainty and negative sentiment surrounding the current crisis presents a significant challenge. The budget that you prepared six months back is probably no longer relevant, some of your significant customers or suppliers may be fighting for survival and you probably lie awake at night wondering if and when things are going to turn around.
The economy moves in cycles and we are in the midst of one of the worst downturns ever. So what can you do in these circumstances? What is the best strategic move you can make?
In conditions of great uncertainty and confusion, one of the most prudent and useful things you can do is spend time considering what your company’s future may look like in different environmental conditions. Scenario planning is a process that can be applied within a business to envision different futures and develop plans for what you may be able to achieve in each set of circumstances.
Scenario planning was originally used for military planning in World War II. In the early 1970s, it was adapted for industry and used extensively at Royal Dutch Shell to plan for the future in the context of an uncertain oil price.
Using this approach, Shell was the first to see the emerging over-capacity in the industry and was better prepared to deal with the ensuing drop in demand. Since then many other companies in other industries have adopted scenario planning as a tool to assist them in improving strategic decision making and investment decisions and in guiding their thinking about competitive moves.
A constructive scenario planning exercise involves a number of important steps. In order to illustrate each of these steps we will consider how Janet Stone may use scenario planning to make wise strategic decisions for CaseConsult.
Step 1: Identify the focal issue
A scenario planning exercise is usually built around a critical choice or key focal issue. This is a significant decision that has important long-range consequences for the organisation. The scope and timeframe for the focal issue and the concerns relating to the focal issue should be clearly defined.
The focal issue facing CaseConsult is whether or not to diversify into another industry within the next 12 months. The company has always focused on a single industry with a single group of customers.
Janet understands the real estate market, having been an estate agent herself, but now she wonders whether the narrow focus of her business will result in its downfall. She is therefore considering developing products for customers in another industry and she wants to be as thorough as possible in making this important decision.
Step 2: Identify the critical uncertainties
Linked to a focal issue are a number of uncertain future events or trends. These uncertain future events or trends are situations that are generally out of the control of management but may significantly affect the environment in which a business will operate in the future.
Examples of uncertain future events or trends include future exchange rates, interest rates, market demand, political stability, regulation etc.
A management team should aim to identify the two uncertain future events or trends that will have the biggest influence on their business over time. They are called “critical uncertainties” and they become a key component of a scenario planning exercise.
For CaseConsult one critical uncertainty is whether or not the property market will pick up again within the next 12 months. If it does, the demand for the company’s products and services is likely to increase. If real estate sales don’t increase in the next 12 months, Janet Stone fears that there will not be adequate demand for her products to sustain her current business model and she must either change her business model or branch out to develop products for other industries.
The second key uncertainty facing CaseConsult is the rate at which telecommunications costs will decrease. Because the company’s solutions rely heavily on web and cell phone technology, the more the company’s clients have to pay for telecommunication costs the less affordable CaseConsult’s solutions become.
The company’s long-term business model is built on the assumption that telecommunications costs in South Africa will decrease to be in line with global pricing but the rate at which that decline will happen is a key uncertainty.
Step 3: Develop a Scenario Framework
The two critical uncertainties then become axes on a matrix with four quadrants of future uncertainty. The aim is to end up with a depiction of four contrasting situations that can be used as a context to make strategic decisions.
The contrasting environments that are created in each quadrant of the matrix are called scenarios. They are plausible alternative outcomes indicating how the world might unfold and are created to highlight risks and opportunities for a business.
Effective scenarios challenge the thinking of the managers in a business by instilling greater insight into the key factors and circumstances that may arise in the future. There are no “right” or “wrong” scenarios, merely plausible alternative future situations that incorporate multiple factors.
Step 4: Create Narrative Scenarios
To enrich the scenario planning process each scenario is expanded upon to create a narrative or story. These narratives should be logical and coherent. They should be structured like a well-written article and stretch the imagination without being too far-fetched.
In the process of writing the narratives you should consider how the world will get from where it is now to where it is in the scenario. Each scenario is also given a title to distinguish it from other scenarios.
In CaseConsult, the managers will spend time developing detailed descriptions of how one may arrive at each of the different situations and of what life will be like in these scenarios.
“Blue Sky Scenario”
Open Property Market with Low Costs
The US government stimulus package kicks in, global markets stabilise and the positive sentiment associated with the Soccer World Cup results in a surge in demand for residential and commercial real estate in late 2009. Estate agents have been cutting costs and rationalising for the past two years and are suddenly overawed by the increased work demands.
Local telecommunications companies embark on a fierce price war. The new undersea fibre optic cable into South Africa is clearly on track and will help to increase South Africa’s bandwidth capacity 120 times to around 10 terabits per second by 2011.
The promise of this cable gives rise to innovative new telecoms reseller business models, all of which seek to provide telecoms solutions at a lower cost. Competitors push these models into the market early to claim market share before the new undersea cable comes online.
“Scattered Showers Scenario”
Closed Property Market with Low Costs
The property market splutters. There are many attempts to inject energy in the market but none take hold. Interest rates remain high, global sentiment is generally negative, lenders remain tight on credit and property buyers hold back.
As a result estate agencies start to go out of business. Although the customer base is drying up, the cost to use the technology is coming down because of the telecoms price war, the new undersea cable developments are on track and new telecoms resellers are emerging (see Blue Sky scenario).
“Cold Wind Scenario”
Open Property Market with High Costs
The efforts to re-energise the property markets are successful and estate agents are thriving. New estate agencies are opening up and all of them are looking for a competitive advantage. The CaseConsult products offer estate agents a potential competitive advantage but the costs to use the product are high.
The cost for bandwidth and SMS’s remain high and thus it is expensive for customers to use CaseConsult’s product. Some customers believe that it is worth spending the money to use the technology while others feel that the cost for using the product is too high to commit to buying it.
“The Perfect Storm Scenario”
Closed Property Market with High Costs
Supply continues to exceed demand in the property markets and estate agents are struggling to move stock. Most estate agents are not generating enough sales to cover their costs and make a decent living. They will do whatever they can to keep their businesses alive.
Telecoms costs in South Africa remain high as the price war has limited impact on pricing and very few new telecoms resellers enter the mix. It therefore remains relatively expensive for estate agents to use CaseConsult’s product. Some still see the value but most are reluctant to buy the product under these conditions.
Step 5: Consider Implications and Options
The narrative scenarios developed in step 4 are then used by the business managers to consider the firm’s strengths and vulnerabilities under each of the scenarios. Options can be discussed, further research requirements identified and alternative strategies developed.
In CaseConsult, the management team spends 90 minutes “living” in each scenario and considering the key implications for the business under each set of circumstances.
The team considers the implications of diversifying the business into a new industry under each scenario and what tactics they may employ to maximise their prospects. This will provide deeper insight into a complex business situation and enable the managers to make better long-term strategic decisions.
Step 6: Identify the Early Warning Signals
Early warning signals are leading indicators that highlight the likely emergence of one scenario or another. They give an indication that the world is moving in a particular direction and are used to trigger strategic re-evaluation. If carefully selected, these signals can give a company a head start on competition when changes in the environment occur. Possible examples include changes in legislation, pending lawsuits, shifts in commodity prices etc.
For CaseConsult the early warning signs in the real estate market and shifts in telecommunications costs are critical. The management team can use the scenarios to identify early warning signs.
Early warning signs related to the movements in the real estate market include:
- Success of global stimulus packages designed to re-energise
- Interest rate movements
- Sentiment associated with the Soccer World Cup
Early warning signs related to telecoms costs:
- Competitors enter the market
- Likelihood of the new undersea fibre optic cable coming into operation on time
- New innovative reseller business models emerging in telecoms sector
Ultimately scenario planning will not give Janet all the answers she needs to survive. But scenario planning will provide her and her managers with the insight and context to make good strategic decisions. The process will force her and her management team to be very aware of the external business environment.
It will provide them with creative options in response to environmental shifts and enlighten them about the early warning signs that may indicate when an environmental shift is occurring. With greater clarity about how it will respond under different environmental scenarios, CaseConsult will be more competitive over the medium-term and Janet may be able to sleep through to 6am.