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RedOceanTrapsThe mental mod,els tftat undermínema r ket- c reati ng strategiesby W. Chan Kim and Renée Mauborgne

n America, corporate performancehas been deteriorating for decades.According to Deloitte's landmark study

"The Shift Index," the aggregate returnon assets of U.S. public companies hasfallen below 1%, to about a quarter ofits 1965 level. As market power hasmoved from companies to consumers,and global competition has intensified,managers in almost all industries have

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come to face steep performance challenges. To turnthings around, they need to be more creative in de-veloping and executing their competitive strategies.But long-term success will not be achieved throughcompetitiveness alone. Increasingly, it will dependon the ability to generate new demand and createand capture new matkets.

The payoffs of market creation are huge. Just com-pare the experiences ofApple and Microsoft ' Over thepast 15 years, Apple has made a series of successful

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w. Chan Kim and Renée Mauborgne are professors ofstrategy and management at INSEAD and the codirectors ofthe INSEAD Blue Ocean Strategy lnstitute, in Fonta¡nebleau,France. They are the authors of Bfue ocean strategy,Expanded Edition (zor5). see wwr¡r.btueoceanstrates/.com.

market-creating moves, introducing the iPod, iTtrnes,the iPhone, the App Store, and the iPad. From thelaunch of the iPod in 2oo1to the end of its zor4 flscalyear, Apple's market cap surged more than 75-fold as

its sales and profits exploded. Over the same period,Microsoft's market cap crept up by a mere 3% whileits revenue went from nearly flve times larger thanApple's to nearly half of Apple's. With close to 80%of profits coming ftom two old businesses-Windowsand Office-and no compelling market-creatingmove, Microsoft has paid a steep price.

Of course, it's not that companies doD:t recognizethevalue ofnewmarket spaces. Totlre contary, theirleaders increasingly are committed to creating themand dedicate sigaiflcant amounts ofmoneyto effortsto do so. But despite this, few companies seem tocrack the code. What, exactly, is getting in their way?

In the decade since the publication of the firstedition of our book,Blue Ocean Strategy, we've hadconversations with many managers involved in ex-ecuting market-creating strategies. As they sharedtheir successes and failures with us, we identif,ed a

common factor that seemed to consistently under-mine their efforts: their mental models-ingrainedassumptions and theories about the way the worldworks. Though mental models lie below people's cog-nitive awareness, tltey're so powerful a determinantof choices and behaviors that many neuroscientiststhink of them almost as automated algorithms thatdictate howpeople respond to changes and events.

Mental models have their merits. In dangeroustimes, a robust mental model can help you quicklymake decisions that are critical to survival. And wehave no issue with the soundness of the mental mod-els thatwe sawmanagers apply. Theywere groundedin knowledge acquired in classrooms and fromyearsofbusiness experience. Theyhelp managers respondbetter to competitive challenges. But our conversa-tions suggest that the mental models managers rely

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SPOTLIGHT ON WHERE STRATEGY STUMBLES

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on to negotiate existing market spaces also under-mine their ability to create new markets.

In our resea¡ch and discussions, we've encoun-tered six especially salient assumptions built intomanagers'mental models. We have come to thinkofthem as red ocean traps, because they effectivelyanchor managers in red oceans-crowded marketspaces where companies engage in bloody com-petition for market share-and prevent them fromentering blue oceans, previously unknown anduncontested market spaces with ample potential.The first two traps stem from assumptions aboutmarketing, in particular an emphasis on customerorientation and niches; the nexttwo from economiclessons on technology innovation and creative de-struction; and the flnal two from principles of com-petitive strategy that regard differentiation and lowcost as mutually exclusive choices. In the followingpages, we'll look at each trap in detail and see how itthwarts companies' atternpts to create markets.

TRAPONESeeing l,larket-Creating Strategies asCustomer-Oriented ApproachesGenerating new demand is at the heart of market-creating strategies. It hinges on converting non-customers into customers, as Salesforce.com didwith its on-demand CRM software, which openedup a new market space by winning over small andmidsize firms that had previously rejected CRMenterprise software.

The trouble is tlrat managers, especially those inmarketing, have been quite reasonably brought upto believe that the customer is king. It's all too easyfor them to assume, therefore, that market-creatingstrategies are customer led, which causes them toreflexively stick to their focus on existing customersand how to make them happier.

This approach, however, is unlikelyto create newmarkets. To do that, an organization needs to turnits focus to noncustomers and why they refuse topatronize an industry's offering. Noncustomers, notcustomers, hold the greatest insight into the points ofpain and intimidation that limit the boundary of anindustry. A focus on existing customers, by contrast,tends to drive organizations to come up with bettersolutions for them than what competitors currentlyoffer-but keeps companies moored in red oceans.

Consider Sony's launch of the Portable ReaderSystem (PRS) in zoo6. The company's aim was to

Growth comes fromconverting nonusers. sonyfocused on improvinge-readers' legibility toplease current customers.But Amezon's Kindleaddressed the numberone concern of nonbuyers:too few available t¡tles.Amazon won.

Niche marketing can betreacherous. Delta's Songtargeted too nerrow asegment of fliers-stylishprofessional women-anddldn't test, But PretA Menger thr¡ved by

"desegmenting" differentcustomer groups-ñguringout what they had incommon-to create anew market space.

unlock a new market space in books by opening thee-reader market to a wide customer base. To flgureout how to realize that goal, it looked to the experi-ence of existing e-reader customers, who were dissat-isfled with the size and poor display quality of currentproducts. Sony's response was a thin, lightweight de-vicewith an easy-to-read screen. Despite themedia'spraise and happier customers, the PRS lost out toAmazon's Kindle because it failed to attract the massof noncustomers whose main reason for rejectinge-readers was the shortage of worthwhile books, notthe size andthe display ofthe devices. Without arichchoice of titles and an easy way to dor,rmload them,the noncustomers stuck to printbooks.

Amazon understood this when it launched theKindle irl2oo7, offering more than four times thenumber of e-titles available from the PRS and mak-ing them easily,downloadable over Wi-Fi. Withinsix hours oftheir release, Kindles sold out, as printbook customers rapidly became e-reader custom-ers as well. Though Sony has since exited e-readers,the Kindle grewthe industry from around a mere2yoof total book buyers in 2oo8 To 28y"in2oL4. It nowoffers more than 2.5 million e-titles.

TRAPÏITOTreating Market-Creating Strategiesas Niche StrategiesThe f,eld of marketing has placed great emphasis onusing ever flner market segmentation to identify andcapture niche markets. Though niche strategies canoften be very effective, uncovering a niche in an ex-isting space is not the same thing as identifying a newmarketspace.

Consider Song, an airline launched in 2oo3 byDelta. Delta's aimwas to create anewmarketspace inlow-cost carriers by targeting a distinct segment offli-ers. It decided to focus on stylish professional womentravelers, a segment it figured had needs and prefer-ences different from those of the businessmen andother passengers most airlines targeted. No airlinehad ever been built around this group. After manyfocus gtoup discussions with upwardly mobile andprofessional women, Delta came up with a plan tocater to them with organic food, custom cocktails, avariety of entertainment choices, free in-flight work-outs with complementary exercise bands, and crewmembers dressed in Kate Spade. The strategy wasintended to flIl a gap in the market. It may well havedone that successfully, but the segment proved too

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THE PROBTEMTo succeed in the long term, companiesmust frnd ways to create new markets.Conrpeting in existing markets is growingless profitabte. But despite muchinvestment and commitment, compan¡esfind it extraordinarity difficutt to establishnew market spaces.

WHY IT HAPPENSManagers' mental modets are based ontheir experiences in existing markets.Though these assumptions and betiefshave worked in the past, they undermineefforts to create new spaces.

THE SOTUTTON

To avoid being trapped in otd markets,managers need to:. focus on attracting new customers. worry less about segmentation. understand that market creation is not

synonymous with either technotogicalinnovation or creative destruction

. stop focusing on premium versustow-cost strategies

ldea in Brief

small to be sustainable despite competitive pricing.Song flew its last flight in April2006, just 36 monthsafteritslaunch.

Successful market-creating strategies don't fo-cus on flner segmentation. More often, they "deseg-ment" markets by identifying key commonalitiesacross buyergroups that could help generate broaderdemand. Pret A Manger, a British food chain, lookedacross th¡ee different prepared-lunch buyer groups:restaurant-going professionals, fast food customers,a¡d thebror¡¡n bag set. Althoughthere were plenty ofdifferences across these groups, tlere were tluee keycommonalities: All of them wanted a lunch tlat wasfresh and healtìfuI, wanted it fast, and wanted it at a

reasonable price. That insight helped het A Mangersee how it could unlock and aggregate untapped de-mand across those grouPs to create a commerciallycompelling new market. Its concept was to offerrestaurant-quality sandwiches made fresh everyday from high-end ingredients, preparing them at a

speed even greater than that offast food, and deliv-ering that experience in a sleek setting at reasonableprices. Today, nearly 3o years on, Pret A Manger con-tinues to enjoy robust profitable growth in the newmarket space it established'

ÎRAPÎHREEConfu sing Technolog¡r I nnovatiônwith Market-Creating StrategiesR&D and technology innovation are widely recog-nized as key drivers of market development and in-dustry growth. It's understandable, tlerefore, thatmanagers might assume that theyare also key driversin the discovery ofnewmarkets. Butthe realityis thatmarket creation is not inevitably about technologicalinnovation. Yellow Tail opened a new market (in itscase, for a fun and simple wine for everyone) with-outanybleeding-edge tedrnologies. So did the coffee

chain Starbucks and the performing arts companyCirque du Soleil. Even when technology is heavily in-volved, as itwas withmarket creators Salesforce'com,Intuit's Quicken, or Uber, itis not the reason that newofferings are successful. Suchproducts and servicessucceed because they are so simple to use, fun, andproductive that people fall in love with them. Thetechnology that enables them essentially disappearsfrombuyers'minds,

Consider the Segway Personal TÌansporter, whichwas launched in 2oo1. Was it a technology innova-tion? Sure. It was the world's fust self-balancing hu-man transporter, and it worked well. Lean forwardand you go forward; Iean back and you go back' Thisengineering marvel was one of the most-talked-about technology innovations of its time. But mostpeople were unwilling to pay up to $5,ooo for a prod-uct that posed difficulties in use and convenience:Where could you park it? How would you take it withyou in a car? Where could you use it-sidewalks orroads? Could you take it on a bus or a train? Altloughthe Segwaywas expected to reachbreakeven just sixmontìs after its launch, sales fell way below initial

REDOCEANTRAPS HBR.ORG

Does market creation alwaYsinvolve creative destruction?The answer is no. Manygroundbreaking productsoffer solutions where nonepreviously existed.

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SPOTLIGHÎ ON WHERE STRATEGY STUMBLES

predictions, and the company was sold in 2oo9. Noteveryone was surprised. At the time of the product'srelease, a prescient Time magazine article aboutDean Kamen, Segway's inventor, struck a cautionarynote: "One of the hardest truths for any technologistto hear is that success or failure in business is rarelydeterminedby the quality of the technologyi'

Value innovation, not techlology innovation, iswhat launches commercially compelling new mar-kets. Successful new products or setvices open mar-ket spaces by offering a leap in productivity, simplic-ity, ease of use, convenience, fun, or environmentalfriendliness. But when companies mistakenly as-sume that market creation hinges on breakthroughtechnologies, their organizations tend to push forproducts or services that are too "out there," toocomplicated, or, like the Segway, lacking a necessaryecosystem. In fact, manytechnology innovations failto create new markets even if they win the companyaccolades and their developers scientific prizes.

TRAP FOUREquating Creative Destructionw¡th Market GrcationJoseph Schumpeter's theory of creative destructionlies at the heart of innovation economics. Creativedestruction occurs when an invention disrupts amarket by displacing an earlier technology or existingproduct or service. Digital photography, for example,wiped out the photographic fllm industry, becomingthe new norm. In Schumpeter's framework, the old isincessantly destroyed and replacedby the new.

But does market creation always involve destruc-tion? The answer is no. It also involves nondestruc-tive creation, wherein new demand is created with-out displacing existing products or services. TakeViagra, which established a new market in lifestyledrugs. Did Viagra make any earlier technology or ex-isting product or service obsolete? No. It unlockednew demand by offering for the f,rst time a real solu-tion to a major problem experienced by many menin their personal relationships. Grameen Bank's cre-ation of the microf,nance industry is another exam-ple. Many market-creating moves are nondestructive,because they offer solutions where none previouslyexisted. We've also seen this happen with the socialnetworking and crowdfunding industries. And evenwhen a certain amount of destruction is involved inmarket creation, nondestructive creation is oftena larger element than you might think. Nintendo's

Technologicatbreakthroughs don'tnecessarily create newrnarkets. segwey was amarvel but never founda wide customer base.New markets arise fromvalue innovation, not techinnovation.

Wii game player, for example, complemented morethan replaced existing game systems, because itattracted younger children and older adults whohadrr-t previousþ played video games.

Conflating market creation with creative destruc-tion not only limits an organization's set of opportu-nities but also sets offresistance to market-creatingstrategies. People in established companies typicallydou-t like the notion of creative destruction or disrup-tion because it may threaten their current status andjobs. As a result, managers often undermine theircompany's market-creating efforts by starving themofresources, allocating undue overhead costs to theinitiatives, or not cooperating with the people work-ing on them. It's critical for market creators to headthis danger off early by darifying that their project isat least as much about nondestructive creation as itis about disruption.

An

TRAP FIVEEq uating l¡larket- Creat¡ngStrategies w¡th D¡fferent¡at¡onIn a competitive industry companies tend to choosetheir position on what economists call the "produc-tivity frontier," the range of value-cost trade-offsthat are available given the structure and norms ofthe industry. Differentiation is the strategic positionon this frontier in which a company stands out fromcompetitors by providing premium value; the trade-offis usuallyhigher costs to the companyand higherprices for customers. We've found that many man-agers assume that market creation is the same thing.

In reality, a market-creating move breaks thevalue-cost trade-off. It is about pursuing differen-tiation and low cost simultaneously. Are Yellow Tailand Salesforce.com differentiated from other play-ers? You bet. But are Yellow Tail and Salesforce.comalso low cost? Yes again. A market-creating move isa "both-andj'not an "either-or," strategy. It's impor-tant to realize this difference, because when com-panies mistakenly assume that market creation issynonJimous with differentiation, they often focuson what to improve or create to stand apart and payscant heed to what they can eliminate or reduce tosimultaneously achieve low cost. As a result, theymay inadvertently become premium competitorsin an existing industry space rather than discover anew market s¡lace of their or,rm.

Take BMW, which set out to establish a new mar-ket in urban transport with its launch of the Cr in

To cteate a new market,you can't view valueend cost as a trade-off.Yellow Tal[ wine offershigh value at low cost-and ls a huge hit.

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2ooo. Tramc problems in European cities are severe,and people waste many hours commuting by carthere, so BMW wanted to develop a vehicle peoplecould use to beat rush-hour congestion. The Ct wasatwo-wheeled scooter targeting the premium end ofthe market. Unlike other scooters, it had a roof anda full windshield with wipers. BMW also investedheavily in safety. The Cr held drivers in place with a

four-point seat-belt system and protected them withan aluminum roll cage, two shoulder-height roll bars,and a crumple zone around the frontwheel.

With all these ext¡a featutes, the Cl was expen-sive to build, and its price ranged from $Zooo to$ro,ooo-far more than the $3,ooo to $5,ooo thattypical scooters fetched. Although the Cr succeededin differentiating itself within the scooter industry, itdid not create the newmarket space in üansportationBMW had hoped for. In the summer of zoo3, BMWannounced it was stopping production because theCl hadn't met sales expectations.

ÎR/tPSIxEquating Market-Creating Strategiesw¡th Low-Cost Strateg¡esThis trap, in which managers assume that they cancreate a new market solely by driving dotrn costs, isthe obvious flip side oftrap f,ve. When organizationssee market-creating strategies as slmon)¡mous withlow-cost strategies alone, they focus on what to elim-inate and reduce in current offerings and largely ig-nore what they should improve or create to increasethe offerings'value.

Ouya is avideo-game console maker that fell i¡tothis trap. When the company began selling its prod-ucts, in June 2013, big players like Sony, Microsoft,and Nintendo were offering consoles connected toTV screens and controllers that provided a high-quatity gaming experience, for prices ranging from$r99 to $419. with no low-cost console available,many people would play video games either onhandheld devices or on TV screens connected tomobile devices via inexpensive cables.

An attempt to create a market space betweenhigh-end consoles and mobile handhelds, the $99Ouya was introduced as a low-cost open-source

"microconsole" offering reasonable quality on TVscreens and most games free to try. Although peopleadmired the inexpensive, simple device, Ouya didn'thave the rich catalog of quality games, 3-D intensity,great graphics, and processing speed that traditional

gamers prized but the company had to some extentsacrificed to drop cost and price. At the same time,Ouya lacked the distinctive advantage of mobilehandheld devices-namely, their play-on-the-gofunctionality. In tfie absence of those features, poten-tial gamers had no compelling reason to buy Ouyas.The companyis now shoppingitself to acquirers-onthe basis of its staff's talent more than the strengthof its console business-but as yet hasrr-t found one.

Our point, again, is that a market-creating strat-egy takes a "both-and" approach: It pursues bothdifferentiation and low cost. In this frameworþ newmarket space is created not by pricing against thecompetition within an industry but by pricing againstsubstitutes and alternatives that noncustomers arecurrently using. Accordingly, a new market doesnot have to be created at the low end ofan industry.Instead it can be created at the high end, as Cirquedu Soleil did in circus entertainment, Starbucks didin coffee, and Dyson did in vacuum cleaners.

Even when companies create new markets at thelow end, the offerings also are clearly differentiatedin the eyes of buyers. Consider Southwest Airlinesand Swatch. Southwest stands out for its friendly,fast, ground-transportation-in-the-air feel, whilestylish, fun designs make Swatches a fashion state-ment. Both companies' offerings are perceived as

both differentiated and low cost.

THE AppRoAcHEs or strategies presented as the redocean traps are not wrong or bad. They all serve im-portant purposes. A customer focus, for example,can improve products and services, and technologyinnovation is a key input for market developmentand economic growth. Likewise, differentiation orlow cost is an effective competitive stlategy. Whatthese approaches are not, however, is the path tosuccessful market-creating strategies. And whenthey drive market-creating efforts that involve biginvestments, they may result in new businessesthat don t earn back those investments and that ul-timately fail, as we have seen here. That's why it'skey to surface and checkthe mental models and as-sumptions of the people who are central to execut-ing market-creating strategies. If those models andassumptions are misaligned with the intended stra-tegic purpose ofnew market creation, you need tochallenge, question, and reframe them. Otherwise,you may fall into the red ocean traps. O

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Difrerentiation cannotbe sacríficed to costsav¡ngs. The ouyavideo-game consolehas a low price, butbecause it underperformsestablished consolesand lacks the mobility ofhandhelds, h has faited tocreate a new market.

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