By Ed Crowley, Photizo Group July 5, 2006 -- Over the last six months I have written about the challenges facing the market for digital printing and distributed printing products as the 'perfect storm' approaches (the confluence of market maturity, market segment shifts, and increasing competitive pressure). However, as with any storm, some boats do better at navigating the rough waters than others. In the business world, the best measure for determining if a firm is making progress is to look at operating income. Ultimately, if a company has a strong operating income, it will have the resources to fund marketing and development programs which will provide it with a competitive edge in the marketplace. This will allow the company to make 'headway' even in a stormy environment. Likewise, if the operating income for the industry as whole is increasing, all of the firms in that industry have a better chance of being profitable. The Photizo Group tracks the operating income for the imaging and printing industry using the Imaging Industry Profit Index. This index measures the operating income generated within the distributed printing / imaging segment by 'stripping out' profits from other businesses (e.g., servers, PCs, etc. for HP). This provides a good yardstick for measuring the 'intensity' of the storm. As the following graph shows the intense price wars in the second and third quarter of a significant impact on industry operating income and drove the industry's operating margin index to its lowest point in two years. Source: TrendLine™ Service © 2006 Photizo Group So how did firms fare in this intensely competitive environment? Who did a better job of steering through the storm? One measure of who is doing the best job in steering through the storm is to look at who is capturing the greatest share of operating income. From this perspective, the firms doing the best are Canon, Hewlett Packard (HP), Heidelberg, and Konica Minolta. Canon and HP are benefiting from their longstanding dominance of the distributed printing space, and in the case of Canon, a strong position in the color copier / MFP space. Source: TrendLine™ Service © 2006 Photizo Group Heidelberg has been successful in capturing the high volume 'production' space and digital press opportunity. Konica Minolta has executed well on their strategy of capturing profitable MFP placements while simultaneously growing their presence in the hyper growth entry color laser space. Of most interest are the companies that capture a larger share of operating income relative to their share of revenue. These firms have clearly identified market segments that have above average profitability, or they are doing a very good job of managing down expenses. However, having a significant share of the industry's operating income by itself is not enough. A firm could easily have a large share of the industry's operating income, but have little operating income growth. Oftentimes firms that are 'harvesting' profits to meet quarterly performance pressure will cut sales, marketing, and development expenses to drive near-term operating income gains. This can be devastating to the firm's long-term success since its competitors will increase their competitive advantage over time if they continue investing while the 'harvester' does not. However, it is often expedient, and allows firms to avoid answering investor questions about their longer term strategy or operational performance. To make sure a firm is not 'harvesting', it is important to also examine operating income growth. As the following graph shows, the firms that are showing the strongest growth, are not the firms that have the highest operating share. In fact, this graph paints a dramatically different picture. Some of the firms which have done the best jobs of growing their operating income (from calendar Q1 of 2004 to Q1 of 2006) have a relatively small share of the total industry operating income. Firms like Okidata, Brother, and Oce have grown their operating income by showing an almost myopic focus on selected market segments. Okidata has made a very successful bet on color, while Brother has focused on winning in the 'entry' monochrome laser segment (particularly in Europe), and Oce has focused on the production and specialty commercial printing spaces in addition to making a good strategic acquisition of Imagistics. Source: TrendLine™ Service © 2006 Photizo Group Of course, these firms have a bit of a 'mathematical advantage' because they are growing operating income from a relatively small base. If you just look at the companies that have strong operating income growth (above 5%) and have a significant operating income share (above 10%), the field quickly narrows to HP and Ricoh. The head of HP's Imaging and Printing Group (IPG), Viyomesh Joshi – aka VJ, clearly understands the strength of HP's brand and is doing an excellent job of selectively maintaining market share through competitive (but not overly aggressive) pricing, investing in core technology to maintain product advantages (as in the case of inkjet SPT technology), while still investing in the future by leveraging the brand into 'higher end' segments such as digital press (via Indigo) and large format sign printing (via Scitex). The Mark Hurd (CEO) / VJ combination is proving to be a very effective duo in terms of stewardship of the HP brand and legacy. Ricoh is, in my opinion, an under-rated powerhouse. They have continually performed well by focusing on their core MFP / copier market, expanding their market presence through strategic acquisitions (most recently Hitachi printing systems), and managing a portfolio of brands (Ricoh, Savin, Gestetner, and Lanier) targeted at specific market segments. The company is, again in my opinion, one of the best 'marketing' companies in the segments they participate in. Just as there are many ways to successfully and safely navigate your way through a storm to clear sailing, there are many ways to craft a successful strategy for a difficult market. However, there are some common factors in those firms that are being successful in either defending or growing their operating income position. While the storm looks very intimidating, some firms are doing a very good job of navigating through the storm. In my view, the common traits these companies share are: TrendLine™ TrendLine is a tracking service for the institutional and professional investor community. This service provides quarterly tracking of the hard copy imaging (distributed and digital printing) markets. It utilizes the index of operating profit and experience based industry insight to create unique insight into future trends and performance for the hard copy imaging industry. TrendLine is a service provided by the Photizo Group. For more information on this service, visit , or email [email protected] . 1) The successful firms understand their strengths. They know what they are good at and they understand their customer base. Acquisitions, investments, and growth plans are all based on the firms strengths. 2) Winning firms have a clear vision on how they are going to compete in the market, and relentlessly pursue this vision. Whether it is Okidata's focus on color LED technology, or Konica Minolta's focus on its highly profitable MFP market, these firms are consistently following their vision. The firms only pursue close adjacencies that are consistent with their strengths. They have a clear focus, and they are as relentless in deciding what they will not pursue as they are in looking for new opportunities. 3) It is important to manage cost and expense, but you cannot save your way to prosperity. The firms that are showing the greatest success are investing in their marketing, development, and distribution channels. They are taking a holistic approach to serving the customer need and again, relentlessly pursuing customer satisfaction. So again, I come back to our 'mantra' for surviving the storm. Understand your strengths, have a clear vision for your future, understand your customers, and relentlessly pursue them. It sounds simplistic, but sometimes in the most difficult storms, the simple strategies work the best!