February 13, 2019 by Jason Contant
Merging with or buying digital firms, and cooperating with digital natives rather than trying to fight or resist them, can pay dividends for a majority of businesses, according to a blog published Tuesday by Harvard Business Review.
The blog, 3 Digital Strategies for Companies That Have Fallen Behind, was written for businesses in general, but could apply to brokerages, insurance companies and others in the industry. It was based on research conducted by McKinsey & Company and the McKinsey Global Institute in which 1,600 companies across sectors and geographies worldwide were asked about digitization. The study probed the speed of companies’ action (agility), their “digital M&A” practices (merging with or buying digital firms), and attitudes towards ecosystem competitions, among others.
It found only 15% of firms have digital technologies entirely embedded in more than half of all their businesses. At the other end of the spectrum, 20% of firms are barely leveraging these technologies at all. The remaining two-thirds of firms generate only 10% to 15% of revenue through digital.
The firms in the “middle” need to combine agility, embrace digital M&A and cooperate with digital natives in order to be truly effective, recommend the study’s authors. The article was written by Jacques Bughin, director of the McKinsey Global Institute, and Tanguy Catlin, a senior partner in McKinsey’s Boston office and lead of McKinsey’s Digital Quotient initiative.
“Of these three, agility is the glue for ensuring positive revenue and EBITDA [earnings before interest, tax, depreciation and amortization] success in digital adoption – even if the growth is lower than the potential from an all-out digital reinvention,” the authors wrote.
Companies following a strategy of “digital reinvention” increase revenue growth by 0.9% and add 1.8% to their EBITDA growth annually on average compared to their peers, the authors said, commenting on their research findings. By contrast, the 20% of companies with no (or very low) digitization are paying the price. “Our latest data set shows that revenue and especially earnings growth are largely negative for companies that neglect, fail, or refuse to embrace digital innovation; EBITDA can shrink by as much as 8% per year.”
Digital M&A can be a way for companies to get back into the race. Merging with or buying digital firms can enable firms to catch up on scale and add missing digital competencies. Currently, when engaged in M&A, more than half of incumbents are still thinking about doing analog M&A. “This can simply slow down transformation efforts,” the authors wrote. “But of those looking to use digital M&A, 45% say they are doing so for scale, and 55% are doing so to acquire crucial missing digital capabilities. The latter is especially accretive to profitable growth.”
The survey results show that digital natives are making inroads into incumbents’ businesses, and yet more than 55% of incumbents have not yet developed a plan for interfacing with digital platforms. Among those that have a plan, 40% are looking to “fight back,” while 60% choose to cooperate. Fighting back remains risky; only one in 10 companies have been able to reverse losses and restore growth, according to the survey results. “Cooperation is a more promising way to rebuild growth, adding an incremental one percentage point of profitable growth,” the authors wrote. “The downside is that if you try a platform play and fail, your performance will tend to be as poor as those without a strategy.”
In aggregate, however, for companies that were not first-movers, they can rebuild a profitable growth path by blending the three postures or agility, digital M&A and cooperation with digital platforms. The latter two – digital M&A and cooperation with digital platforms – allow a company to “borrow” scale. Agility allows them to test multiple options quickly.
“Only a combination of these three postures leads to positive growth even if, in total, it may not fully compensate for the absence of a digital reinvention,” the authors say. “In our research, the number of companies that adopt the three approaches is about as large as those carrying out a full digital reinvention, and about two in three are successful.”