It's been said that success sows the seeds of its own destruction. That's true for Dell (DELL), which led the PC industry a decade ago and got so locked in to perfecting its business strategy of ever-lower costs and direct selling that it lost sight of a major shift in its customer base. That failure to renew value has wiped out $68 billion in stock market value over the last decade.
For the last few years I have been teaching a Harvard Business School case, Matching Dell, which describes how Dell wiped the floor with its competition. I won't be teaching Matching Dell this fall because Dell has failed so miserably to adapt to the times that it no longer represents a good example of how to create value for customers and capture it for shareholders.
Dell's Advantage in the 1990s -- Higher Prices, Lower Costs
In the 1990s, Dell tapped into a powerful trend -- companies were investing in e-business, and PCs were an important part of the equation. Dell kept each customer's unique preferences in its database, and companies could place their orders through the website without going through retailers with costly markups. Meanwhile, Dell engineered its purchasing, cash management, manufacturing and delivery processes to keep costs lower than its competitors.
Dell ended up with a very rare way to make money. Not only was it leaner than competitors like Compaq, enjoying a 14% lower cost per PC -- due to direct selling and to delaying the purchase of computer chips so as to take advantage of their declining prices -- but Dell was also able to charge 13% more on average because business customers valued its ability to customize PCs to their corporate needs.
Companies generally choose either a low-cost strategy, in which they ruthlessly pare costs and charge lower prices, or differentiation, where they give customers more value and charge a higher price. In the 1990s, Dell did both successfully.
How Core Competency Became Core Rigidity
But after the dot-com collapse, Dell's advantage turned into a disadvantage. Companies lost interest in investing their capital in e-business, and the PC industry turned to consumers for continued growth. Increasingly, those consumers began lining up at Apple (AAPL) retail stores to buy iMacs, iPods, iPads and the like. And when consumers buy PCs or laptops, they want to see and touch the product before buying -- rather than trusting Dell's website.
Not only is Dell weak at retail marketing, it had enormous quality problems that it tried hard to hide. According to the New York Times, 97% of the 11.8 million OptiPlex desktop computers Dell sold to companies between 2003 and 2005 contained faulty electronic parts known as capacitors. These faulty capacitors leaked and caused the computers to stop working. Moreover, Dell went to great lengths to cover up the problem in its communications with customers.
I don't know exactly why Dell reacted this way, but there's no doubt that it had some serious management problems, at the core of which was trying to avoid adapting to serious changes in its business.
Dell Fails at Value Renewal While Apple Succeeds
One of the most basic ideas of business is that if you want to win, you have to create more value for customers than the competition. What's more, winners capture that value -- earning more profit -- by doing their daily activities more effectively than competitors.
But sustained superior performance doesn't come merely from value creation and value capture. Companies must also engage in a continuous process of self-reinvention that I call value renewal. (Collectively, these make up what I call the Value Cycle.) Dell, in stark contrast to Apple, has failed miserably at value renewal.
A decade ago, Dell's market value was $130 billion while Apple's was $23 billion. Today, Dell's is down 74% to $24 billion while Apple's has exploded 898% to $234 billion.
That's the difference between a company that understands value renewal and one that doesn't.