When the businesses were hit by the pandemic, the growth strategies designed two years ago were no longer relevant as priorities changed, new demands and new consumption categories emerged, and some categories, companies, and entire sectors became obsolete. The supply-side and demand-side equilibria was shifting as markets faced shortages at one end, whereas inventories stockpiled elsewhere. Even the superpower of the supply chain, Amazon, has been brought to its knees.
How can firms manage in uncertain times?
A framework for responding to unprecedented disruptions
Demand for moisturisers rose because repeated washing of hands during the Covid-19 pandemic required additional attention to the skin. Demand for petrol and oil dropped as commute and travel came to a halt. Lipstick sales decreased as lips were now hidden behind a mask. Should managers wait these out or alter the business model or strategy?
When faced with dramatic and unprecedented events, managers must first step back and examine what is happening. Instead of directly responding to every change underway, managers must focus on the structural nature of the change. It is natural to feel extreme pressure to respond in some way or another when the world around you changes drastically. Yet, in the interest of outlasting a disruption, no matter how severe, a manager must have a framework to inform whether and how anything should be changed in response to the disruption.
We propose the following Order & Intensity Model of Response to Disruption. This 3×3 model represents three orders of change, one in each row, and three levels of impact, one in each column.
The orders of impact
Any disruption or change can be seen as having one of three orders or impact on a firm—first, second, or third. A first-order impact is where the disruption directly affects the firm, be it on the supply side or the demand side. For example, when some countries declared lockdowns with little advance notice, trucks were stalled midway with inventories or raw materials trapped in the supply chain. Firms relying on these supplies would be facing a first-order impact. Similarly, people started washing their hands more often during the recent pandemic. The rise in demand for sanitizers and soap also a first-order impact on those industries.
A second-order impact is where the effect of disruption on the firm or industry is indirect. In other words, the firm experiences the ripple effect of the supply- or demand-side implications on other firms or other industries. When people use more moisturizer because they are washing their hands more often and their skin tends to dry with excessive washing, the change in demand for moisturizer is a second-order change. The fear of Covid-19 was not prompting greater usage of moisturizer. The fear was only prompting increased handwashing. It is the increased handwashing that resulted in increased use of moisturizers.
Finally, third-order implications for a firm arise from changes that result from changes in lifestyle, habits, or fears that are unwittingly triggered by the first- or second-order changes. For example, if people wear a mask, they may soon find that it is permissible to occasionally skip makeup or a shave because the mask conceals the face. Firms in those industries would, therefore be facing third-order implications of Covid-19.
The intensity of impact
The intensity of the impact, be it first-, second- or third order, should also be classified into three categories—high, medium, and low. High intensity represents instances where the disruption alters the demand or supply in ways that cannot be readily addressed. For example, when travel restrictions were imposed because of the pandemic, demand for air travel dropped by as much as 90%. Similarly, when personal protective equipment (PPE) was devoted to healthcare workers dealing with Covid-19 patients, the supply of PPE dropped precipitously in all other sectors.
An impact’s intensity can be considered medium when the disruption makes it difficult for a firm to hold the same cost or margin in responding to the disruption. For example, if offices were cleaned more often than in the past, it would be impossible to reopen for business at the same cost. On the flip side, if firms realized that there has not been any loss in productivity when employees work from home and, therefore, mandate remote working as the norm after the pandemic subsides, the costs would have come down. Either way, the impact only alters the cost and margin; therefore, the intensity should be considered medium. It has not made it impossible to continue the business.
It is critical for firms not to confound the high and medium intensities. There is a danger that the second may feel as severe as the first. Significant changes in cost or margin can appear to the managers as deadly as a lethal drop in demand. However, strategically, they are distinct and should be dealt with differently.
Finally, low intensity will be instances where the firm can pivot easily and avoid any significant shifts in a business model. For example, a takeout restaurant could continue operating during a pandemic by merely introducing sealed packaging and curb-side delivery, neither of which will alter the cost or margin.
We propose that a firm’s response should be contingent on which of the nine cells it finds itself in. In responding to any disruption, firms in cell 1 are the worst affected. At the other extreme, firms that find themselves in cell 9 are the least affected and are better off waiting it out. But the key will be for managers to maintain clarity on which cell they are in and select the appropriate response.
Responding to first-order impact
When a disruption results in a first-order decline in demand (e.g., what Covid-19 did to hotel rooms, dine-in restaurants, and airlines), much of the manager’s conventional toolkit turns ineffectual. Irrespective of the business model, it is unlikely that costs will decline proportionate to the decline in revenue. Therefore, the most important strategy in this case should be to flatten the burn rate (the rate at which cash burns, i.e., costs are incurred in relation to revenue). This is easier said than done because the manager must also be sensitive about not ceasing operations to the extent that it becomes prohibitively expensive or structurally uncompetitive to restart after the dust settles. Therefore, managers must be willing to consider several non-conventional strategies.
Managers must examine their products and services in a radically different light and reimagine the purchase process. For example, one assumes that airline passengers pay for tickets with predetermined origin, destination, and date. Why not sell vouchers during the disruption and offer an option to redeem them at a level higher than face value for travel at a later period? They should disaggregate consumption to maintain cash flows. Adversities are also an opportunity to build long-term brand equity. Airlines that offer such superior customer orientation at these times and keep the customer at the centre of business will also benefit from increased loyalty.
Similarly, what stops hotels from selling rooms that can be redeemed at one of multiple (say, four or five) properties at one of multiple periods in the future? This not only arrests the burn of cash, but it also accelerates the restart. Other ways to flatten the burn rate could be industry-wide collaborations. For example, travel vouchers could be sold by airline partners, with a caveat that, if they are redeemed after at least six months, they could be redeemed across multiple airlines. Managers responding to high, first-order impact must stop thinking of their product or service and must think of themselves as architects of flattening the burn rate. Similar strategies apply across B2B and B2C.
On the other hand, if demand were to rise in response to a disruption, it presents a rare, reliable opportunity for a manager to easily extend the brand. The demand for hand sanitizers or disinfectants increased but did not endure. Organizations involved in manufacturing these products should work on supply chain efficiencies and manufacturing capabilities but also consider capitalizing on extending across the parent category. Because what will remain after the immediate aftermath of a disruption is an interest in the broader category, not necessarily the product.
Responding to second-order impact
When a firm experiences second-order impact of a disruption, the approaches available to a manager can be grouped into two categories.
(a) The second-order effect is in response to rising demand experienced by the first-order firm (e.g., Covid-19 has led to more hospital beds being used and a janitorial service company experiences the second-order effect of that increased usage).
(b) The second-order effect is in response to declining demand experienced by the first-order firm (e.g., Covid-19 has led to fewer hotel rooms being booked and a janitorial services company experiences the second-order effect of that fall in usage).
In the first case above, managers must explore how they can inch closer to the first order. A moisturizer brand should explore innovations and extensions such as sanitizing moisturizers. In the second case above, the second-order firms should explore ways to partner with the first-order firms in arresting the decline in demand. For example, a brand of disinfectant or bathroom cleaner can partner with a hotel chain to launch a “hygiene promise” together with customers to encourage them to come back.
Therefore, when faced with a second-order impact, the manager must shift their attention from their own product or service and instead focus almost exclusively on the role they can play in a network or constellation. They must explore exhaustively the complementary and supplementary product offerings because new linkages can emerge in response to disruptions. For example, the use of masks has created a dent in demand for lipsticks. Brands must innovate lipsticks that do not stain the face masks and/or carry properties related to moisturising lips rather than shine and glamour.
Responding to third-order impact
In general, a third-order impact may afford only a short-term opportunity for a firm and does not typically represent a substantive change. The manager’s preoccupation in this case should be on making hay while the sun shines. Any temptation to building capability should be initially resisted.
Conclusion
Strategy entails the decision on how to allocate resources across a finite number of options. No strategy can be effective if the manager errs on identifying the appropriate set of options. We argue that even in responding to a disruption such as the current pandemic, managers will succeed only if they are strategic. We present the Order-Intensity Model as a template to aid identification of strategic options available to the firm. Managers much first designate appropriately the effect of a disruption on the firm. Identifying the cell that best reflects the position the firm finds itself in is necessary before appropriate response strategies are considered.
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