Volume 103: From Ultimate Driving Machine to a total bag of...

1. From Ultimate Driving Machine to a total bag of dicks.

tl;dr: BMW holds customers hostage, dilutes brand.

OK. So, nobody ever got rich by claiming car companies were the most customer-centric operators on the block, but the news that BMW is turning its cars into a microtransaction subscription platform truly turns them from the ultimate driving machine into a total bag of dicks. Apparently, getting a heated seat in the UK, Germany, New Zealand, South Africa, and South Korea isn’t just an optional extra; it’s now a microtransaction. For $18/month, you get a warm butt. And, if that indignity wasn’t enough, they also charge a subscription fee to access map updates, “iconic sounds” (whatever the hell that is), auto-headlight switching, safety camera information, cruise control, and more. What’s worse is the smarmy way they communicate all this:

“The hardware for this feature has already been installed in your vehicle during production, at no extra cost.”

WTFF? No extra cost? I’m hitting the roof and don’t even want a BMW.

Let’s break this down a little. You’re going to go out and buy a new car. You’re looking at BMW, and you’ll pay, I dunno, anywhere from $50k-$100k+ for the privilege. But, to access basic functionality, you must choose from an a la carte menu of monthly subscription options? Ummm, no. In fact, HELL NO. There are plenty of other cars out there. So why be held hostage by Bavaria’s finest?

I suspect that I’m far from alone in thinking this way. This is a classic example of a business decision being made without a thought for the customer or the brand. It’s so dumb; McKinsey probably recommended it.

Before getting into the brand impact, let’s first go through the logic of the spreadsheet-based decision-making process. While I’m paraphrasing here, it almost certainly went along the following lines: There isn’t much profit in the car business. It’s costly to produce multiple versions of the same vehicle, and once a sale is made, there are no recurring revenues beyond spare parts. But…what if we could make a single version of every car and then have its functionality turned on and off through software? Then, they’d be cheaper to make, and we’d get a recurring stream of profits for the vehicle’s lifetime, which, based on the valuations of other businesses with recurring subscription revenues, could multiply our market capitalization by up to 8X.

Sounds tantalizing. But, here’s the problem. The car industry is one of the few major consumer industries that are still relatively competitive, so this plan only works if customers choose to accept it, and many won’t. You don’t have to buy a BMW; you have a bevy of other choices that aren’t nickel and diming an $80,000 purchase. Moreover, this industry is undergoing a rapid shuffling of the deck as electrification goes mainstream.

This month, the US hit the 5% milestone for EV sales. This matters because, in other countries where 5% of new cars sold were EVs, it precipitated rapid hockey-stick-like growth, where EV sales quickly rose to 25% or more.

And, who’s best poised to take advantage? Well, in two words, not BMW. Tesla has already eaten heavily into their market share, they’ve been slow to electrify, and Hyundai, Ford, Mercedes, and VW Audi Group are all ahead, which is creating what looks like a generational shuffling of the competitive pack. Now, add what looks like a set of short-sighted, anti-customer, and brand-diluting behaviors, and well, I can easily see BMW losing share as others gain.

That’s not to say they’ll be the only car manufacturer going subscription. McKinsey advises all of them and achieves economies of scale for itself by selling the same strategy multiple times. Still, the truth is that it might be a compelling value proposition for a lower-cost player.

If the purchase price is low enough, the idea of turning features on or off as needed or as your budget allows is really interesting. Just not when you’re dealing with a premium product that costs a fortune already. I mean, bloody hell. It’s like Nordstroms charging you for customer service.

2. The first SaaS recession?

tl;dr: I’m not sure we fully understand what might happen.

Over the past twenty years, one of the singular shifts we’ve seen is from on-premise software and services to software as a service (SaaS) delivered via the cloud. This hasn’t just changed how businesses and individuals use software. It’s also had a fundamental impact on business models, capabilities, and cost structures as software has shifted from something you buy to something you rent, blurring the boundaries of what’s inside and outside the corporation in the process.

To date, the markets responsible for valuing businesses (both public and private) have been extremely bullish on this trend, valuing SaaS software businesses with strong recurring subscription revenues more highly than their more transactional forbears.

What’s interesting today, though, is that assuming we are entering a recession, as looks increasingly likely (some believe we may already be in one), it will be the world’s first SaaS recession. Using 2008 as a proxy for the last significant downturn, the SaaS industry is approximately 28 times larger today than it was back then. That’s a massive shift with potentially significant consequences.

There are two things I’m keeping an eye out for. First, how many businesses will choose to turn off SaaS services? And second, how many companies will depend on them, even if prices rise? Let’s take each in turn.

First, one of the major reasons for bullish valuations for successful SaaS businesses has been how low their churn rates are. Typically, a successful SaaS business adds a healthy number of new customers while at the same time retaining 93-95% of existing customers, which is an almost ideal model for growth. However, I’ve seen observers note that while many SaaS businesses are still seeing healthy customer acquisition, the churn side is starting to look a lot more volatile, which is precisely the kind of problem that could leave many businesses in much trouble, especially if they were profit-challenged to begin with. The real question, though, is going to be just how easy it is to turn these services off, how mission-critical they are, and how readily available cheaper substitutes might be. Look out for easily substituted, easily turned off, non-critical SaaS businesses to potentially be in trouble (likely leading to further market concentrating M&A activity as the strong snap up the weak).

On the flip side, one thing that symbolizes “born in the cloud” businesses is how asset-light they are—typically built atop an array of SaaS services. Just take an average DTC retailer as an example, which is likely renting everything from its storefront to its credit card processing, to its customer care, its warehousing, delivery, etc—in this case, turning off parts of the stack, whether something as fundamental as the storefront or seemingly esoteric as deep learning algorithms, will be hard, if not impossible. And here’s where there’s likely to be a squeeze. Here, SaaS businesses that feel they have power over their customers, for whatever reason, will be tempted to raise prices to offset declines or weaknesses elsewhere. And, if enough of them do this, it might result in some customers no longer being viable as their cost of doing business rises.

So, what’s the net, net? Well, I don’t think valuations have traditionally considered how prone some SaaS services might be to being turned off. Equally, we haven’t considered the knock-on effects within an interdependent ecosystem of essential SaaS services raising prices to offset weaknesses elsewhere.

So, watch this space.

3. The Creative McKinsey? Sure, but at least be a little thoughtful first.

tl;dr: Everyone gets this one wrong.

If I had a dollar for every time an agency CEO told me they intended to build the “Creative McKinsey,” I’d have, I dunno, about $20. Which doesn’t sound like much until you realize how few people I talk to in an average day. From this small sample, I suspect that being the Creative McKinsey is a much more prevalent aspiration than anyone realizes.

Of course, you can see why. McKinsey is a $10bn behemoth of a management consultancy that works heavily at the top echelons of business and government, sometimes both at the same time (neat trick being both poacher and gamekeeper), and they’ve built the pre-eminent global advisory brand, even as they’ve done their level best to tarnish the crap out of it.

However, saying you want to be the creative McKinsey is a bit like saying you want to be the Die Hard of Consulting. And therein lies the inherent problem, which is one of strategic laziness.

The aspiration is fine; what is lacking is any diagnosis of why McKinsey is as successful as it is and a complete lack of strategy to achieve a similar outcome. As a result, this becomes a compelling metaphor for the problem of non-existent diagnosis combined with a lack of imagination in strategy formulation.

Here’s what typically happens. The CEO of said agency articulates their desire to be the Creative McKinsey. They mistake this asinine statement for true strategic insight and immediately get on the blower to their top recruitment consultant, where they say. “We’re going to transform this industry by building the creative McKinsey. I need you to find me the finest management consulting talent my agency dollars can buy.” So off the recruitment consultant goes and rustles up a few MBA types.

Spotting the problem yet?

Well, if you haven’t, here’s a tip. You don’t end up as the Creative McKinsey by drop-shipping expensive management consultants into a creative business and hoping it’ll all just work out. In the best-case scenario, you end up with a McKinsey-lite management consulting practice with a thin layer of creativity sprinkles over the top. In the worst, you end up in chaos as sparks fly, cultures clash, and DNA gets rejected right, left, and center. I’ve experienced both in my career. Both are exhausting, and I’ve never seen it work. And by work, I mean last more than a few months before the consultants either leave or get fired.

Here’s a tip. McKinsey is successful because it pioneered the kind of management science and analytical management techniques that today serve as the foundations of modern management. Everything they’ve since become over a hundred years or so is built atop this foundation.

This means you can’t just analysis your way to becoming the Creative McKinsey. Instead, you must do what McKinsey did for analysis 100 years ago, but this time for creativity in the current context. You must make creativity intrinsically valuable to business leaders, fundamental to how they view the future of their businesses, and something they view as a critical set of capabilities to be brought in from the outside that they do not have and cannot easily buy from others. And you need to show why it’s a real alternative or complement to McKinsey and not just McKinsey-lite.

Now, this is a tall order. I’m not going to pretend I have the answer. (If I did, I’d be building it, not writing about it in a newsletter). But, I do want you to take away the importance of having a clear diagnosis before jumping to a solution. And the need to embrace imagination in formulating that solution, rather than simply repeating the mistakes of others over and over again in the magical hope of a different outcome.

The problem with Creative McKinsey = hiring McKinsey consultants has always been one of no diagnosis leading to an obviously and unimaginatively lousy solution.