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The Idea in Brief

Are y'all using traditional analytic tools—market enquiry, value chain analysis, assessments of rivals—to inform your strategy? Those tools work in stable business environments. But today nosotros're operating amid unprecedented uncertainty. Apply the old tools, and you lot risk formulating strategies that neither defend your company against threats nor leverage the opportunities uncertainty tin can provide.

Instead, apply analytic tools based on the level of uncertainty facing your company: Are you facing only ii or three alternative futures? And so use tools such equally conclusion assay. A wide range of possible scenarios? Consider scenario planning. Armed with the right kind of information, select an appropriate strategy—and execute it through savvy moves.

For example, using scenario planning, fiscal-services provider Mondex International determined that the advent of electronic cash transactions could create a range of possible futures. Mondex'due south strategy? Shape its industry'southward future by establishing what it hoped would go universal electronic-cash standards. Its moves? Make big-bet investments in product development, complemented by more conservative airplane pilot experiments to speed client acceptance.

As companies similar FedEx and Microsoft take discovered, using the correct tools to read the future enables you to avoid disastrous strategic investments while exploiting fresh opportunities.

The Idea in Practice

Confronting Doubt

1. Apply appropriate analytic tools to place strategic options.

If you envision: Just a few hereafter scenarios

Use: Selection valuation models and game theory to establish relative probabilities of each event and approximate culling strategies' risks and returns Instance:

A pulp and paper company cannot find or predict its competitors' plans for expanding chapters—which could strongly bear on manufacture prices and profitability. Its decision whether to build a plant volition swivel on rivals' decisions. A limited number of competitor moves are likely. The company evaluates the inherent risks and returns for each scenario, using game theory to place probable market winners and losers for each.

If you envision: A broad range of futures

Use: Technology forecasting and scenario planning to develop 4–5 possible scenarios Example:

A consumer-appurtenances company considering entering the Indian marketplace develops multiple scenarios characterized by different variables, such as customer-penetration rates and latent-need level.

2. Select a strategic posture. Strategic postures analyze your strategic intent. They can accept three forms:

  • Shaping—driving your industry toward a new structure of your devising and creating new opportunities. Hewlett-Packard shifted photo processing from stores to homes by offering high-quality, low-price photo printers.
  • Adapting—choosing where and how to compete within the current manufacture structure. Many telecommunications service resellers pursue competitive advantage through pricing and constructive execution rather than product innovation.
  • Reserving the right to play—making incremental investments to stay in the game without committing to a new strategy prematurely. Some pharmaceutical companies reserve the right to play in gene-therapy applications past buying small biotech firms with relevant expertise.

3. Build a portfolio of strategic moves. Use i or more than of these moves depending on your strategic posture:

  • Large bets—major commitments (upper-case letter investments, mergers or acquisitions) that volition generate large payoffs in some scenarios and big losses in others.
  • Options—modest initial investments (pilot trials, limited articulation ventures, technology licensing) that enable y'all to ramp upwardly or scale back your investment later as the market evolves.
  • No-regrets moves—actions that pay off no matter what happens, such as cost-cut initiatives and competitor intelligence.

Example:

Chemical companies frequently use options to reserve the right to play when emerging technologies' performance is uncertain. Rather than retrofitting old plants effectually an unproven new technology, they buy options to license the applied science within a specified time frame or retrofit a few facilities with the emerging engineering. These pocket-sized, up-front commitments position them to ramp upward or discontinue evolution of the engineering as its functioning becomes clearer.

What makes for a adept strategy in highly uncertain business organisation environments? Some executives seek to shape the futurity with loftier-stakes bets. Eastman Kodak Company, for example, is spending $500 million per twelvemonth to develop an array of digital photography products that it hopes will fundamentally change the mode people create, shop, and view pictures. Meanwhile, Hewlett-Packard Company is investing $fifty million per year to pursue a rival vision centered effectually home-based photograph printers. The concern printing loves to hype such industry-shaping strategies considering of their potential to create enormous wealth, simply the sober reality is that most companies lack the industry position, assets, or ambition for risk necessary to make such strategies work.

More than run a risk-averse executives hedge their bets by making a number of smaller investments. In pursuit of growth opportunities in emerging markets, for case, many consumer-product companies are forging express operational or distribution alliances. But it's often

difficult to determine if such limited investments truly reserve the correct to play in these countries or just reserve the right to lose.

Alternatively, some executives favor investments in flexibility that allow their companies to adapt quickly as markets evolve. Just the costs of establishing such flexibility tin can be high. Moreover, taking a wait-and-see strategy—postponing large investments until the future becomes articulate—can create a window of opportunity for competitors.

How should executives facing cracking uncertainty make up one's mind whether to bet big, hedge, or wait and see? Chances are, traditional strategic-planning processes won't help much. The standard practice is to lay out a vision of time to come events precise enough to be captured in a discounted-greenbacks-flow analysis. Of course, managers can discuss alternative scenarios and exam how sensitive their forecasts are to changes in cardinal variables, but the goal of such analysis is often to find the most likely outcome and create a strategy based on information technology. That approach serves companies well in relatively stable business environments. But when in that location is greater uncertainty about the future, it is at best marginally helpful and at worst downright unsafe.

Under uncertainty, traditional approaches to strategic planning can be downright dangerous.

One danger is that this traditional approach leads executives to view incertitude in a binary way—to assume that the world is either sure, and therefore open to precise predictions virtually the future, or uncertain, and therefore completely unpredictable. Planning or capital-budgeting processes that require point forecasts forcefulness managers to bury underlying uncertainties in their cash flows. Such systems clearly push managers to underestimate uncertainty in order to make a compelling case for their strategy.

Underestimating dubiousness tin can lead to strategies that neither defend against the threats nor accept advantage of the opportunities that higher levels of incertitude may provide. In one of the about colossal underestimations in business concern history, Kenneth H. Olsen, then president of Digital Equipment Corporation, appear in 1977 that "there is no reason for whatever individual to have a estimator in their home." The explosion in the personal estimator market place was not inevitable in 1977, just it was certainly inside the range of possibilities that industry experts were discussing at the time.

At the other farthermost, assuming that the world is entirely unpredictable can lead managers to abandon the analytical rigor of their traditional planning processes altogether and base their strategic decisions primarily on gut instinct. This "just practise information technology" arroyo to strategy can cause executives to place misinformed bets on emerging products or markets that result in record write-offs. Those who took the plunge and invested in home banking in the early 1980s immediately come to mind.

Take chances-balky managers who think they are in very uncertain environments don't trust their gut instincts and endure from decision paralysis. They avoid making critical strategic decisions almost the products, markets, and technologies they should develop. They focus instead on reengineering, quality direction, or internal cost-reduction programs. Although valuable, those programs are not substitutes for strategy.

Making systematically sound strategic decisions nether incertitude requires a different approach—one that avoids this dangerous binary view. It is rare that managers know absolutely nothing of strategic importance, even in the about uncertain environments. In fact, they unremarkably can identify a range of potential outcomes or fifty-fifty a discrete set of scenarios. This uncomplicated insight is extremely powerful because determining which strategy is best, and what process should be used to develop it, depend vitally on the level of dubiety a visitor faces.

What follows, then, is a framework for determining the level of uncertainty surrounding strategic decisions and for tailoring strategy to that doubtfulness. No approach can make the challenges of incertitude go away, but this one offers practical guidance that volition lead to more than informed and confident strategic decisions.

Four Levels of Uncertainty

Even the nigh uncertain concern environments contain a lot of strategically relevant information. Start, it is often possible to identify articulate trends, such equally market place demographics, that can help define potential demand for future products or services. Second, in that location is unremarkably a host of factors that are currently unknown just that are in fact knowable—that could be known if the right analysis were done. Operation attributes for electric current technologies, elasticities of demand for sure stable categories of products, and competitors' chapters-expansion plans are variables that are ofttimes unknown, but non entirely unknowable.

The doubtfulness that remains after the best possible analysis has been done is what we call residual doubt—for example, the upshot of an ongoing regulatory argue or the operation attrib-utes of a technology even so in development. But often, quite a flake can be known about fifty-fifty those residual uncertainties. In practice, we have found that the residual uncertainty facing most strategic-decision makers falls into one of four wide levels:

Level 1: A Clear-Enough Hereafter.

At level 1, managers tin can develop a single forecast of the time to come that is precise enough for strategy development. Although it will exist inexact to the degree that all business organization environments are inherently uncertain, the forecast volition be sufficiently narrow to point to a unmarried strategic direction. In other words, at level 1, the residual uncertainty is irrelevant to making strategic decisions.

Consider a major airline trying to develop a strategic response to the entry of a low-price, no-frills competitor into one of its hub airports. Should information technology respond with a low-cost service of its own? Should it cede the depression-toll niche segments to the new entrant? Or should it compete aggressively on price and service in an endeavour to bulldoze the entrant out of the market?

To make that strategic determination, the airline'southward executives need marketplace research on the size of different customer segments and the likely response of each segment to different combinations of pricing and service. They also need to know how much it costs the competitor to serve, and how much capacity the competitor has for, every road in question. Finally, the executives need to know the new entrant'due south competitive objectives to anticipate how it would respond to whatever strategic moves their airline might make. In today's U.S. airline industry, such information is either known already or is possible to know. Information technology might not be easy to obtain—it might require new market research, for example—merely it is inherently knowable. And once that data is known, residual dubiety would exist express, and the incumbent airline would exist able to build a confident concern case effectually its strategy.

Level 2: Alternate Futures.

At level 2, the hereafter can exist described every bit one of a few alternate outcomes, or detached scenarios. Analysis cannot identify which upshot will occur, although information technology may help establish probabilities. Most important, some, if not all, elements of the strategy would modify if the outcome were predictable.

Many businesses facing major regulatory or legislative change face up level two dubiousness. Consider U.S. long-altitude telephone providers in late 1995, as they began developing strategies for entering local telephone markets. Past belatedly 1995, legislation that would fundamentally deregulate the industry was pending in Congress, and the broad form that new regulations would take was fairly clear to most industry observers. But whether or not the legislation was going to laissez passer and how quickly it would exist implemented in the effect it did laissez passer were uncertain. No amount of analysis would allow the long-distance carriers to predict those outcomes, and the correct course of action—for example, the timing of investments in network infrastructure—depended on which outcome occurred.

In another common level ii state of affairs, the value of a strategy depends mainly on competitors' strategies, and those cannot yet be observed or predicted. For case, in oligopoly markets, such as those for pulp and paper, chemicals, and basic raw materials, the main uncertainty is often competitors' plans for expanding capacity: Will they build new plants or not? Economies of calibration often dictate that any plant congenital would exist quite large and would be likely to have a significant bear on on industry prices and profitability. Therefore, any one company's decision to build a constitute is ofttimes contingent on competitors' decisions. This is a classic level 2 situation: The possible outcomes are detached and clear. It is difficult to predict which one volition occur. And the best strategy depends on which one does occur.

How to Use the Iv Levels of Uncertainty

Level 3: A Range of Futures.

At level 3, a range of potential futures can exist identified. That range is defined by a limited number of fundamental variables, but the actual outcome may lie anywhere along a continuum bounded by that range. There are no natural discrete scenarios. As in level ii, some, and possibly all, elements of the strategy would change if the outcome were predictable.

Companies in emerging industries or entering new geographic markets oft face level 3 dubiousness. Consider a European consumer-goods company deciding whether to introduce its products to the Indian marketplace. The all-time possible market place enquiry might identify just a broad range of potential customer-penetration rates—say, from ten% to 30%—and at that place would be no obvious scenarios within that range. Such a broad range of estimates would be common when introducing completely new products and services to a market, and therefore determining the level of latent demand is very difficult. The company entering Republic of india would exist probable to follow a very different and more aggressive entry strategy if it knew for certain that its customer penetration rates would be closer to 30% than to 10%.

Analogous issues exist for companies in fields driven past technological innovation, such equally the semiconductor industry. When deciding whether to invest in a new technology, producers tin can frequently estimate only a wide range of potential cost and operation attributes for the technology, and the overall profitability of the investment depends on those attributes.

Level 4: True Ambiguity.

At level 4, multiple dimensions of incertitude interact to create an environment that is virtually impossible to predict. Unlike in level three situations, the range of potential outcomes cannot exist identified, let alone scenarios within that range. It might not even exist possible to identify, much less predict, all the relevant variables that will define the future.

Level 4 situations are quite rare, and they tend to migrate toward one of the other levels over time. Nevertheless, they do exist. Consider a telecommunications company deciding where and how to compete in the emerging consumer-multimedia marketplace. It is against multiple uncertainties concerning technology, need, and relationships between hardware and content providers, all of which may collaborate in ways and then unpredictable that no plausible range of scenarios can be identified.

Companies considering making major entry investments in post-Communist Russian federation in 1992 faced level 4 uncertainty. They could not outline the potential laws or regulations that would govern property rights and transactions. That fundamental dubiousness was compounded past additional uncertainty over the viability of supply chains and the demand for previously unavailable consumer goods and services. And shocks such as a political assassination or a currency default could have spun the whole system toward completely unforeseen outcomes.

Those examples illustrate how difficult strategic decisions can be at level iv, just they also underscore their transitory nature. Greater political and regulatory stability has turned decisions almost whether to enter Russian markets into level iii problems for the bulk of industries today. Similarly, uncertainty almost strategic decisions in the consumer multimedia market will migrate to level 3 or to level two equally the manufacture begins to take shape over the next several years.

Tailoring Strategic Analysis to the Four Levels of Dubiousness

Our experience suggests that at least one-half of all strategy problems fall into levels 2 or 3, while nigh of the rest are level 1 problems. But executives who retrieve virtually uncertainty in a binary way tend to treat all strategy problems as if they fell into either level one or level 4. And when those executives base their strategies on rigorous analysis, they are well-nigh likely to apply the same prepare of analytic tools regardless of the level of residual uncertainty they face. For example, they might endeavour to employ standard, quantitative market-research techniques to forecast need for data traffic over wireless communications networks as far out every bit x years from now.

Only, in fact, a different kind of assay should be done to identify and evaluate strategy options at each level of uncertainty. All strategy making begins with some course of situation analysis—that is, a picture of what the world will look like today and what is probable to happen in the future. Identifying the levels of dubiety thus helps ascertain the best such an analysis can exercise to describe each possible hereafter an industry faces.

To help generate level 1's usefully precise prediction of the futurity, managers can use the standard strategy tool kit—market inquiry, analyses of competitors' costs and capacity, value chain analysis, Michael Porter's 5-forces framework, and so on. A discounted-cash-menstruum model that incorporates those predictions can then exist used to determine the value of diverse culling strategies. It'due south not surprising that nearly managers experience extremely comfortable in level 1 situations—these are the tools and frameworks taught in every leading business program in the United States.

Level 2 situations are a chip more complex. First, managers must develop a gear up of detached scenarios based on their understanding of how the key resid-ual uncertainties might play out—for example, whether deregulation occurs or not, a competitor builds a new plant or not. Each scenario may crave a different valuation model—general industry structure and behave will oft be fundamentally different depending on which scenario occurs, and so alternative valuations tin can't be handled by performing sensitivity analyses around a single baseline model. Getting data that helps establish the relative probabilities of the alternative outcomes should be a high priority.

After establishing an appropriate valuation model for each possible effect and determining how likely each is likely to be, a archetype decision-analysis framework can be used to evaluate the risks and returns inherent in alternative strategies. This process will identify the likely winners and losers in culling scenarios, and perhaps more of import, information technology will assist quantify what's at stake for companies that follow status quo strategies. Such an analysis is often the fundamental to making the example for strategic change.

In level 2 situations, it is of import not but to identify the dissimilar possible future outcomes but also to think through the probable paths the manufacture might take to reach those alternative futures. Volition modify occur in major steps at some particular point in time, following, for example, a regulatory ruling or a competitor's conclusion to enter the marketplace? Or volition alter occur in a more evolutionary fashion, as often happens after a resolution of competing applied science standards? This is vital information because it determines which market signals or trigger variables should exist monitored closely. As events unfold and the relative probabilities of alternative scenarios change, it is likely that one's strategy will also need to exist adjusted to these changes.

At one level, the analysis in level 3 is very similar to that in level two. A fix of scenarios needs to be identified that describes culling future outcomes, and analysis should focus on the trigger events signaling that the market is moving toward i or some other scenario. Developing a meaningful gear up of scenarios, nonetheless, is less straightforward in level 3. Scenarios that describe the extreme points in the range of possible outcomes are often relatively piece of cake to develop, merely these rarely provide much physical guidance for current strategic decisions. Since there are no other natural discrete scenarios in level 3, deciding which possible outcomes should be fully developed into alternative scenarios is a real art. Simply at that place are a few general rules. First, develop only a limited number of culling scenarios—the complication of juggling more than 4 or five tends to hinder conclusion making. 2nd, avoid developing redundant scenarios that have no unique implications for strategic decision making; make certain each scenario offers a distinct picture of the industry's structure, conduct, and performance. Tertiary, develop a set of scenarios that collectively account for the probable range of future outcomes and not necessarily the unabridged possible range.

Because it is incommunicable in level 3 to define a complete list of scenarios and related probabilities, information technology is incommunicable to summate the expected value of different strategies. However, establishing the range of scenarios should allow managers to determine how robust their strategy is, identify likely winners and losers, and determine roughly the risk of following condition quo strategies.

Situation analysis at level four is even more than qualitative. Still, it is critical to avoid the urge to throw one's hands up and act purely on gut instinct. Instead, managers need to catalog systematically what they know and what is possible to know. Even if it is impossible to develop a meaningful set of likely, or fifty-fifty possible, outcomes in level four situations, managers can proceeds valuable strategic perspective. Usually, they tin can identify at to the lowest degree a subset of the variables that volition make up one's mind how the market will evolve over time—for instance, customer penetration rates or technology performance attributes. And they tin can identify favorable and unfavorable indicators of these variables that will let them track the market'due south evolution over fourth dimension and adapt their strategy as new information becomes available.

At level iv, it is disquisitional to avoid the urge to throw upwardly your hands and act purely on gut instinct.

Managers tin can also identify patterns indicating possible ways the market may evolve by studying how analogous markets developed in other level 4 situations, determining the key attributes of the winners and losers in those situations and identifying the strategies they employed. Finally, although it will be impossible to quantify the risks and returns of different strategies, managers should exist able to place what data they would have to believe nigh the hereafter to justify the investments they are considering. Early market indicators and analogies from similar markets will help sort out whether such beliefs are realistic or not.

Doubtfulness demands a more flexible approach to situation analysis. The former i-size-fits-all approach is simply inadequate. Over fourth dimension, companies in most industries will face strategy issues that have varying levels of remainder uncertainty, and information technology is vitally important that the strategic analysis exist tailored to the level of uncertainty.

The one-time one-size-fits-all analytic approach to evaluating strategy options is but inadequate.

Postures and Moves

Before nosotros can talk almost the dynamics of formulating strategy at each level of uncertainty, nosotros demand to innovate a basic vocabulary for talking about strategy. Outset, in that location are 3 strategic postures a company tin choose to take vis-à-vis doubtfulness: shaping, adapting, or reserving the correct to play. 2d, there are 3 types of moves in the portfolio of actions that tin be used to implement that strategy: big bets, options, and no-regrets moves.

Strategic Posture.

Any good strategy requires a selection about strategic posture. Fundamentally, posture defines the intent of a strategy relative to the current and hereafter land of an industry. Shapers aim to bulldoze their industries toward a new construction of their own devising. Their strategies are about creating new opportunities in a market—either by shaking up relatively stable level 1 industries or past trying to control the direction of the market place in industries with higher levels of incertitude. Kodak, for example, through its investment in digital photography, is pursuing a shaping strategy in an attempt to maintain its leadership position, equally a new engineering science supersedes the one currently generating almost of its earnings. Although its product technology is new, Kodak's strategy is withal based on a traditional model in which the visitor provides digital cameras and moving picture while photo-processing stores provide many of the photograph-press and storage functions for the consumer. Hewlett-Packard also seeks to be a shaper in this market, but it is pursuing a radically unlike model in which high-quality, low-cost photograph printers shift photo processing from stores to the home.

The Three Strategic Postures

In contrast, adapters take the electric current industry structure and its future evolution as givens, and they react to the opportunities the marketplace offers. In environments with little incertitude, adapters cull a strategic positioning—that is, where and how to compete—in the electric current industry. At higher levels of uncertainty, their strategies are predicated on the ability to recognize and reply speedily to market place developments. In the highly volatile telecommunications-service manufacture, for example, service resellers are adapters. They purchase and resell the latest products and services offered by the major telecom providers, relying on pricing and constructive execution rather than on production innovation every bit their source of competitive advantage.

The 3rd strategic posture, reserving the right to play, is a special grade of adapting. This posture is relevant but in levels 2 through four; it involves making incremental investments today that put a company in a privileged position, through either superior information, price structures, or relationships between customers and suppliers. That allows the company to wait until the surroundings becomes less uncertain before formulating a strategy. Many pharmaceutical companies are reserving the correct to play in the market for factor therapy applications by acquiring or allying with small biotech firms that have relevant expertise. Providing privileged access to the latest industry developments, these are low-toll investments compared with edifice a proprietary, internal gene-therapy R&D program.

A Portfolio of Actions.

A posture is not a complete strategy. It clarifies strategic intent but not the actions required to fulfill that intent. Iii types of moves are especially relevant to implementing strategy nether weather condition of uncertainty: big bets, options, and no-regrets moves.

Large bets are big commitments, such every bit major capital investments or acquisitions, that will outcome in large payoffs in some scenarios and large losses in others. Not surprisingly, shaping strategies usually involve big bets, whereas adapting and reserving the correct to play exercise non.

Options are designed to secure the big payoffs of the all-time-example scenarios while minimizing losses in the worst-case scenarios. This asymmetric payoff structure makes them resemble fiscal options. Most options involve making pocket-sized initial investments that will allow companies to ramp upwardly or scale back the investment later as the marketplace evolves. Classic examples include conducting pilot trials before the total-scale introduction of a new production, entering into limited joint ventures for distribution to minimize the gamble of breaking into new markets, and licensing an alternative technology in case information technology proves to exist superior to a current technology. Those reserving the right to play rely heavily on options, but shapers use them also, either to shape an emerging but uncertain market as an early on mover or to hedge their big bets.

Finally, no-regrets moves are but that—moves that will pay off no matter what happens. Managers often focus on obvious no-regrets moves like initiatives aimed at reducing costs, gather-ing competitive intelligence, or building skills. All the same, fifty-fifty in highly uncertain environments, strategic decisions like investing in capacity and entering certain markets can exist no-regrets moves. Whether or not they put a proper noun to them, most managers understand intuitively that no-regrets moves are an essential element of whatever strategy.

The choice of a strategic posture and an accompanying portfolio of actions sounds straightforward. Simply in exercise, these decisions are highly dependent on the level of uncertainty facing a given business. Thus the iv-level framework tin help clarify the applied implications implicit in whatever choice of strategic posture and actions. The give-and-take that follows volition demonstrate the unlike stra-tegic challenges that each level of dubiety poses and how the portfolio of actions may exist applied.

What's in a Portfolio of Actions?

Strategy in Level 1'due south Clear-Enough Hereafter.

In anticipated business organization environments, most companies are adapters. Analysis is designed to predict an manufacture'south hereafter landscape, and strategy involves making positioning choices about where and how to compete. When the underlying analysis is sound, such strategies are by definition fabricated upward of a series of no-regrets moves.

Adapter strategies in level 1 situations are not necessarily incremental or boring. For example, Southwest Airlines Company's no-frills, point-to-point service is a highly innovative, value-creating adapter strategy, every bit was Gateway 2000's depression-cost assembly and straight-postal service distribution strategy when it entered the personal computer market place in the late 1980s. In both cases, managers were able to identify unexploited opportunities in relatively low-dubiousness environments within the existing market structure. The all-time level ane adapters create value through innovations in their products or services or through improvements in their business systems without otherwise fundamentally changing the industry.

It is too possible to exist a shaper in level 1 situations, but that is risky and rare, since level 1 shapers increase the amount of rest uncertainty in an otherwise predictable market—for themselves and their competitors—in an attempt to fundamentally alter long-standing industry structures and conduct. Consider Federal Limited Corporation'south overnight-delivery strategy. When it entered the post-and-parcel delivery manufacture, a stable level 1 situation, FedEx'southward strategy in issue created level 3 uncertainty for itself. That is, fifty-fifty though CEO Frederick W. Smith commissioned detailed consulting reports that confirmed the feasibility of his business concept, only a broad range of potential demand for overnight services could be identified at the time. For the industry incumbents like United Parcel Service, FedEx created level 2 doubt. FedEx'south move raised two questions for UPS: Will the overnight-commitment strategy succeed or not? and Volition UPS have to offer a like service to remain a viable competitor in the market?

Over time, the industry returned to level one stability, but with a fundamentally new structure. FedEx'south bet paid off, forcing the rest of the industry to adapt to the new demand for overnight services.

What portfolio of actions did it take to realize that strategy? Like most shaper strategies, fifty-fifty in level 1 situations, this one required some big bets. That said, it oft makes sense to build options into a shaper strategy to hedge against bad bets. Smith might take hedged his bets by leasing existing cargo airplanes instead of purchasing and retrofitting his original fleet of Falcon "minifreighters," or he could take outsourced basis pickup and commitment services. Such moves would take limited the amount of capital he would accept needed to sink into his new strategy and facilitated a graceful get out had his concept failed. Still, that kind of insurance doesn't always come cheap. In FedEx'due south case, had Smith leased standard-size cargo planes, he would accept come under the restrictive regulations of the Civil Aeronautics Board. And outsourcing local pickups and deliveries would have diluted FedEx'due south unique door-to-door value to customers. Thus Smith stuck mainly to big bets in implementing his strategy, which collection him to the brink of bankruptcy in his first two years of operation but ultimately reshaped an entire manufacture.

Strategy in Level 2'southward Alternate Futures.

If shapers in level 1 try to raise doubt, in levels 2 through 4 they attempt to lower dubiousness and create order out of chaos. In level 2, a shaping strategy is designed to increase the probability that a favored industry scenario will occur. A shaper in a capital-intensive industry similar pulp and newspaper, for example, wants to prevent competitors from creating excess chapters that would destroy the industry's profitability. Consequently, shapers in such cases might commit their companies to building new chapters far in advance of an upturn in demand to preempt the competition, or they might consolidate the industry through mergers and acquisitions.

Consider the Microsoft Network (MSN). A few years ago, one could place a discrete set of possible ways in which transactions would be conducted between networked computers. Either proprietary networks such as MSN would become the standard, or open networks like the Internet would prevail. Uncertainty in this situation was thus at level 2, even though other related strategy issues—such as determining the level of consumer demand for networked applications—were level 3 bug.

Microsoft could reasonably expect to shape the way markets for electronic commerce evolved if it created the proprietary MSN network. It would, in result, be edifice a commerce hub that would link both suppliers and consumers through the MSN gateway. The strategy was a big bet: the development costs were pregnant and, more important, involved an enormously loftier level of industry exposure and attention. In effect, for Microsoft, it constituted a large brownie bet. Microsoft's activities in other areas—such as including one-button admission to MSN from Windows95—were designed to increase the probability that this shaping bet would pay off.

But even the all-time shapers must exist prepared to adapt. In the battle between proprietary and open networks, certain trigger variables—growth in the number of Internet and MSN subscribers, for example, or the activity profiles of early on MSN subscribers—could provide valuable insight into how the market was evolving . When it became articulate that open up networks would prevail, Microsoft refocused the MSN concept around the Net. Microsoft's shift illustrates that choices of strategic posture are not carved in stone, and it underscores the value of maintaining strategic flexibility under dubiousness. Shaping strategies tin neglect, so the best companies supplement their shaping bets with options that allow them to change course quickly if necessary. Microsoft was able to do just that because it remained flexible past being willing to cut its losses, by building a core of engineers who had a wide range of full general-programming and production-development skills, and by closely monitoring cardinal trigger variables. In uncertain environments, it is a mistake to let strategies run on autopilot, remaining content to update them only through standard twelvemonth-end strategy reviews.

Shaping strategies tin can neglect, and then the all-time companies supplement their shaping bets with options that let them change course quickly.

Because trigger variables are often relatively simple to monitor in level ii, it can be easy to adapt or reserve the right to play. For instance, companies that generate electricity—and others whose business depends on energy-intensive production processes—often face level two doubt in determining the relative cost of different fuel alternatives. Discrete scenarios can ofttimes be identified—for example, either natural gas or oil will exist the low-toll fuel. Many companies thus choose an adapter strategy when building new plants: they construct flexible manufacturing processes that tin can switch easily betwixt different fuels.

Chemical companies often choose to reserve the right to play when facing level 2 dubiousness in predicting the performance of a new applied science. If the applied science performs well, companies will have to employ it to remain competitive in the marketplace. But if information technology does not fulfill its promise, incumbents can compete effectively with existing technologies. Near companies are reluctant to bet several hundred million dollars on edifice new capacity and retrofitting old plants around a new engineering science until information technology is proven. But if they don't make at to the lowest degree incremental investments in the brusque run, they chance falling besides far behind competitors should the technology succeed. Thus many will purchase options to license the new technology within a specified time frame or begin retrofitting a proportion of existing chapters around the new engineering. In either case, small, up-front commitments requite the companies privileged positions, only non obligations, to ramp upward or discontinue development of the new engineering as its performance attributes go clearer over time.

Strategy in Level 3's Range of Futures.

Shaping takes a different form in level 3. If at level two, shap-ers are trying to make a discrete outcome occur, at level 3, they are trying to move the market in a general direction because they can identify only a range of possible outcomes. Consider the boxing over standards for electronic cash transactions, currently a level 3 trouble since one tin can define a range of potential products and services that autumn between purely paper-based and purely electronic greenbacks transactions, only it is unclear today whether there are whatever natural discrete scenarios within that range. Mondex International, a consortium of fiscal services providers and technol-ogy companies, is attempting to shape the future by establishing what it hopes volition become universal electronic-cash standards. Its shaping posture is backed by large-bet investments in product evolution, infrastructure, and pilot experiments to speed customer acceptance.

In dissimilarity, regional banks are mainly choosing adapter strategies. An adapter posture at uncertainty levels 3 or iv is often accomplished primarily through investments in organizational capabilities designed to go along options open. Because they must make and implement strategy choices in real time, adapters need quick access to the best market information and the near flexible organizational structures. Many regional banks, for example, have put in identify steering committees focused on electronic payments, R&D projects, and competitive-intelligence systems so that they can constantly monitor developments in electronic payment engineering and markets. In improver, many regional banks are making small investments in manufacture consortia as some other way to monitor events. This adapter arroyo makes sense for well-nigh regional banks—they don't have the deep pockets and skills necessary to set standards for the electronic payment market, withal it is essential that they be able to offer the latest electronic services to their customers as such services become available.

Reserving the correct to play is a common posture in level 3. Consider a telecommunications company trying to decide whether to make a $1 billion investment in broadband cable networks in the early 1990s. The decision hinged on level 3 uncertainties such equally demand for interactive Tv service. No corporeality of solid market place enquiry could precisely forecast consumer need for services that didn't even exist nevertheless. However, making incremental investments in broadband-network trials could provide useful information, and it would put the visitor in a privileged position to expand the business organisation in the future should that prove attractive. By restructuring the broadband-investment decision from a large bet to a series of options, the company reserved the correct to play in a potentially lucrative marketplace without having to bet the farm or risk being preempted past a competitor.

How a Regional Depository financial institution Confronts the Uncertainties in Electronic Commerce

Strategy in Level 4's True Ambivalence.

Paradoxically, even though level iv situations contain the greatest uncertainty, they may offer higher returns and involve lower risks for companies seeking to shape the market than situations in either level 2 or 3. Retrieve that level four situations are transitional past nature, often occurring after a major technologi-cal, macroeconomic, or legislative shock. Since no player necessarily knows the best strategy in these environments, the shaper's role is to provide a vision of an industry structure and standards that will coordinate the strategies of other players and drive the market place toward a more stable and favorable outcome.

Mahathir bin Mohamad, Malaysia's prime minister, is trying to shape the future of the multimedia industry in the Asian Pacific Rim. This is truly a level four strategy problem at this point. Potential products are undefined, equally are the players, the level of client demand, and the technology standards, among other factors. The government is trying to create gild out of this anarchy past investing at least $15 billion to create a so-called Multimedia Super Corridor (MSC) in Malaysia. The MSC is a 750-square-kilometer zone south of Kuala Lumpur that will include country-of-the-fine art "smart" buildings for software companies, regional headquarters for multinational corporations, a "Multimedia University," a paperless government center chosen Putrajaya, and a new metropolis chosen Cyberjaya. By leveraging incentives like a 10-year exemption from the revenue enhancement on profits, the MSC has received commitments from more than xl Malaysian and strange companies so far, including such powerhouses as Intel, Microsoft, Nippon Telegraph and Telephone, Oracle, and Sun Microsystems. Mahathir's shaping strategy is predicated on the notion that the MSC volition create a spider web of relationships between content and hardware providers that will event in clear manufacture standards and a fix of complementary multimedia products and services. Intel'south Malaysia managing director, David B. Marsing, recognized Mahathir'due south shaping aspirations when he noted, "If y'all're an evolutionist, information technology's strange. They're [the Malaysian authorities] trying to intervene instead of letting information technology evolve."

Shapers demand not make enormous bets every bit the Malaysian government is doing to be successful in level 3 or 4 situations, nevertheless. All that is required is the brownie to coordinate the strategies of different players around the preferred outcome. Netscape Communications Corporation, for instance, didn't rely on deep pockets to shape Internet browser standards. Instead, it leveraged the credibility of its leadership team in the industry so that other manufacture players idea, "If these guys think this is the way to go, they must exist right."

Netscape relied on its credibility, rather than deep pockets, to shape Internet browser standards.

Reserving the correct to play is common, but potentially dangerous, in level iv situations. Oil companies believed they were reserving the right to compete in China past ownership options to establish various beachheads there some 20 years ago. However, in such level 4 situations, it is extremely difficult to determine whether incremental investments are truly reserving the right to play or simply the right to lose. A few full general rules apply. First, look for a loftier degree of leverage. If the choice of beachhead in Prc comes downward to maintaining a small, but expensive, local functioning or developing a limited joint venture with a local benefactor, all else beingness equal, go for the low-cost pick. College-cost options must be justified with explicit arguments for why they would put the visitor in a better position to ramp upward over time. Second, don't get locked into ane position through neglect. Options should be rigorously reevaluated whenever important uncertainties are clarified—at least every vi months. Remember, level 4 situations are transitional, and nearly will speedily move toward levels iii and ii.

The difficulty of managing options in level four situations often drives players toward adapter postures. As in level 3, an adapter posture in level 4 is frequently implemented past making investments in organizational capabilities. Most potential players in the multimedia industry are adopting that posture today merely will presently be making bigger bets as the industry moves into level 3 and 2 uncertainty over time.

A New Approach to Uncertainty

At the heart of the traditional approach to strategy lies the assumption that by applying a set up of powerful analytic tools, executives tin predict the future of any business accurately enough to permit them to choose a clear strategic direction. In relatively stable businesses, that arroyo continues to work well. But information technology tends to interruption down when the environment is so uncertain that no corporeality of good analysis volition permit them to predict the hereafter.

Levels of uncertainty regularly confronting managers today are and then high that they demand a new way to think about strategy. The approach we've outlined volition help executives avoid dangerous binary views of uncertainty. Information technology offers a discipline for thinking rigorously and systematically most uncertainty. On 1 plane, it is a guide to judging which analytic tools can help in making decisions at various levels of doubtfulness and which cannot. On a broader plane, our framework is a style to tackle the virtually challenging decisions that executives have to brand, offering a more complete and sophisticated understanding of the uncertainty they confront and its implications for strategy.

This article is based on inquiry sponsored by McKinsey'southward ongoing Strategy Theory Initiative (STI). The authors would like to thank their STI colleagues for their significant contributions to this article.

A version of this commodity appeared in the Nov–December 1997 result of Harvard Concern Review.