Managing Supply Chain Shockwaves: Lean, Just-in-Time, and Customer Profitability with Dr. Jonathan Byrnes

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My guest for Episode #412 of the Lean Blog Interviews podcast is Dr. Jonathan Byrnes, the co-author of the new book Choose Your Customer: How to Compete Against the Digital Giants and Thrive. He is a Senior Lecturer at MIT, where he has taught about supply chain management and other topics at the graduate level and in executive programs for over 30 years. 

He is Chairman and Founder of Profit Isle, an innovative profit analytics and profit acceleration SaaS company, and President of Jonathan Byrnes & Co., a focused consulting company he founded in 1976. Dr. Byrnes earned a DBA from Harvard University in 1980 and an MBA from Columbia University in 1974. 

Byrnes explains the critical tension between cost-efficient lean supply chains and their inability to tolerate significant variance, leading to “supply chain shockwaves” that can persist long after the initial event. He argues against the chaotic “first-come, first-served” approach to inventory shortages, proposing instead that companies manage allocations based on customer profitability–prioritizing “Profit Peaks” with full orders, actively managing “Profit Drains,” and automating service for “Profit Deserts”.

The conversation also explores the dynamics of hoarding and the “bullwhip effect” as economies reopen, with Byrnes predicting cycles of inventory glut and shortage as supply chains struggle to rebalance. He clarifies common misconceptions about Just-in-Time manufacturing, distinguishing the stable Toyota model from high-variance models like Apple's. Finally, Byrnes discusses insights from his new book, Choose Your Customer: How to Compete Against the Digital Giants and Thrive, offering strategies for businesses to avoid head-on competition with Amazon by focusing on defensible, high-service market segments where they can deliver unique value.

Links related to today's episode include:

• Article: “How to Manage your Supply Chain Shock Waves“
• The MIT “Beer Game” or “Root Beer Game“
• NY Times: Widespread Commodity Shortages Raise Inflation Fears
• WSJ: Auto Makers Retreat From 50 Years of ‘Just in Time' Manufacturing
• Mark's blog post about that

The podcast is sponsored by Stiles Associates, now in their 30th year of business. They are the go-to Lean recruiting firm serving the manufacturing, private equity, and healthcare industries. Learn more.

This podcast is part of the #LeanCommunicators network. 

You can listen to the audio or watch the video, below. I hope you enjoy it like I did.

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Video of the Episode:

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You can also hear him in a “bonus” episode of the “My Favorite Mistake” podcast.

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Automated Transcript (Not Guaranteed to be Defect Free)

Mark Graban: Welcome to episode 412 of the podcast. It's May 5th, 2021. Our guest today is Dr. Jonathan Byrnes. You'll learn more about him in just a second. If you want to find show notes and more, links to his book and articles and things that we talk about today, you can go to leanblog.org/412. Also, I invite you to follow, as they're now calling it in the different podcast apps–we used to say subscribe–please follow, rate, and review. And if you like the episode or if you like the podcast, please share it with a friend. Share it on social media. That really helps a lot. So as always, thanks for listening.

Our guest today is Jonathan Byrnes. He is a senior lecturer at MIT where he's taught about supply chain management and other topics at the graduate level and in executive programs for over 30 years. He has written over 200 books, articles, cases, notes, and expert submissions. And his latest book is available now, it's co-authored with John Wass. It's called Choose Your Customer: How to Compete Against The Digital Giants and Thrive. So, Jonathan, thank you so much for joining us here today. How are you?

Jonathan Byrnes: It's my pleasure. I'm doing fine. Thank you. I actually look out the window and I don't see snow, so I guess it's a good sign here in New England. But I want to thank you very much for inviting me on. It's a very opportune time because both the New York Times and the Wall Street Journal ran articles this morning about supply chain disruptions and how companies are building just-in-case inventories, also called hoarding, against eventualities. So it should be a very interesting discussion. And again, I'm really very grateful for the terrific public service that you provide here, and I'm really privileged to be able to be part of it today. Thank you.

Mark Graban: Well, sure thing. And we also previously had a chance to record an episode on the My Favorite Mistake podcast. So I'll encourage people to check that out. That's going to be available soon as well. So before we dive into this really timely and interesting supply chain discussion, let me tell you a little bit more about our guest.

He's the chairman and founder of a company called Profit Isle. It's an innovative profit analytics and profit accelerator SaaS software company. And he's president of Jonathan Byrnes and Company, a focused consulting company that he founded in 1976. Dr. Byrnes earned his DBA from Harvard University in 1980 and an MBA from Columbia University in 1974.

And when I was studying at MIT Sloan, I didn't get a chance to take a class with you, Jonathan. I know you're friends with many of the professors I had. I wonder, you know, I took so many operations and supply chain classes. I wonder why we didn't cross paths when I was there.

Jonathan Byrnes: I'm embarrassed to say, I think at that time I was teaching at eight in the morning. I don't know if that had anything to do with it.

Mark Graban: It's embarrassing that I wouldn't want to take an 8:00 AM class.

Jonathan Byrnes: Well, that happens with the other students. But when I went to 10 o'clock, the class size doubled. I was very, very close to Don Rosenfield. He was one of my very closest friends socially; we used to vacation together. Tragically passed away recently. I know he was head of the program that you were in, Mark. At MIT, it's really very much a community and there's so many wonderful courses that sometimes students find their way over to me and sometimes they find their way over to Steve Graves or Charlie Fine or any number of other really, really wonderful authorities. So I'll catch you on your next round.

Mark Graban: Maybe I can come back for some executive education or even just having this discussion. I'm happy to continue my education. And when you talk about all of the great teachers at MIT, Steve Spear comes to mind also. He's been a guest on here.

Jonathan Byrnes: He was a DBA also. Another Harvard guy. On the 25th anniversary of my teaching at MIT, people gave me a lunch and a couple of people were speakers. Don Rosenfield was one of the speakers. And he said that when I first went over to MIT, I taught with the case method, as they still do. And people said, “Oh, he's from Harvard. That's why he does that.” Because HBS where I went to school uses the case method. And he said after 25 years of teaching here, we like to think that he's from MIT. I wear it as a badge of honor. And actually, I married into the family. My wife is an MIT alumna.

Mark Graban: Well there's opportunities to combine the best of both worlds and both teaching methods from the school, as I guess it would be up the river, just slightly up the Charles.

Jonathan Byrnes: Up the river. Yes, that's right. No pun intended.

Mark Graban: Or two train stops away via the T.

Jonathan Byrnes: On the Red Line.

Managing Supply Chain Shockwaves

Mark Graban: Exactly. Well, the one article, and I'll make sure that I link to this in the show notes for everybody, is actually an article from May 2020. And I'll also link to the Wall Street Journal article that Jonathan mentioned that I did have a chance to read. I did not yet see the New York Times article, but I'll find those and link to those. But our main topic today is this article titled “How to Manage Your Supply Chain Shockwaves.” This is published in May of 2020. So I guess to tee you up and share a little bit, if you can talk about the premise of the article, but now that it's been a year, I'd be curious to hear your reflections on how things played out in terms of supply chain shockwaves related to the pandemic or coming out of the pandemic. Has maybe some of this effect been delayed? What would you say?

Jonathan Byrnes: Well, I think that the underlying principle, if you really sort of scrape all the dirt off and get down to the bedrock, is that there's a tension between having a lean supply chain, which is very cost efficient because product flows through it presumably with very little inventory, which of course would compress cycle time and minimize your cost. The problem that people don't recognize because they don't encounter very often is that a lean supply chain cannot tolerate much variance.

The reason that we have inventory in any supply chain is because we have a variance in supply and a variance in demand. With that certain amount of variance, inventory allows us to not run out of stock and therefore incur the cost of having people go to the shelf and be disappointed. What I teach in my class is that you have two choices. You can optimize the inventory using mathematical techniques, and those have been very well thought out over the years, or you can manage the variance, which people haven't really thought about. So when supply chain courses–Supply Chain 101–teach people inventory models, and there are a number of people who still work on those, but they date back to the time before there were computers and telecommunications and all the sorts of things that we have at our disposal today.

So the thought of not necessarily optimizing, but assuming the variance in supply and assuming the variance in demand–that assumption that that's how you manage a channel is no longer true. If you have a refinery producing–I teach a case on filling a diesel oil tank for the Union Pacific Railroad–you can just call the refinery and say, “We don't have a lot of trains. Don't send another car.” Or you can call the train with your wireless or get the cell phone of the engineer and say, “If you really need it, we got a lot of product. Why don't you stop here?”

Now, for most of the period of time historically, the variance in supply and demand has been quite stable, really fairly stable. And that's either because of the inherent variance in whatever's causing demand or supply, and the changes are seasonal or things that are somewhat predictable. So you can have variance, you can predict it, that's okay, because you can build inventory against it. But every once in a while you have a major disruption that lasts longer than one or two order cycles.

There are a variety of reasons for that. I think that probably the most common one is there's a port strike. So back in the late 1990s, there was a big strike in the port of Long Beach on the West Coast. And when you shut down that port, all of a sudden it was like putting a stopper on a tap. The variance in supply went through the roof because there wasn't any. And lean supply chains are tuned so that you don't have a lot of padding and cushion against that. But that means is that that shut off of inbound product meant that the output product, what you're producing and selling, also stopped. And that's a disaster because companies need to have stable earnings. They need to have customers who are happy. And so when that sort of thing happens, it disrupts the entire system.

Prioritizing Customers: Peaks, Drains, and Deserts

Jonathan Byrnes: So there are a couple of ways that we could deal with it. We could either go to all our customers and say, “We'll do the best we can.” And the salespeople say to each of their customers, “We'll do the best we can.” And then they go to the warehouse and they try to find somebody who will do them a favor. And it's basically a first come, first serve situation. And that makes everybody unhappy because the sales people are not making promises, but they're saying, “I think I can help you.” Because people don't like to say no, particularly in sales. And so when they can't produce the product the customer's been half expecting–“Don't worry, our sales person will come through”–everybody winds up angry. Salespeople are frustrated.

So that first come, first served is typically the way that companies do it. And they don't have to do this very often, once every few years or more. So they haven't ever really created processes to handle this. When the pandemic started, this was a real issue because this wasn't just a port strike that was going to be resolved in a week or a month. Or the snow storm in Texas with resins. But this was a very long-term event and companies didn't have a way to think through how to deal with that. They had these lean supply chains without a lot of just in case inventory. And they had to figure out what to do.

What we wrote about in the article with my former student, John Wass–during the Long Beach Port Strike, he was senior vice president of Supply Chain at Staples–he had to try to figure out what was going on and what to do about it. So in that case, you have two choices. Either it's a scramble with first come first served, which doesn't work for anybody. Or you go back and you say, “Well, I have different sorts of customers.”

And then you get into a question of how you calculate customer profitability. But assuming that you can do that, and we can do that in Profit Isle through our transaction base P&Ls, we can really nail it. You then say, okay, I know who my Profit Peaks are. Those are a lot of revenues and a lot of profits. And I know who my Profit Drains are. They're big customers where I'm losing money. And I know who my Profit Deserts are. They're the little customers that aren't really doing much at all. So you have a little bit of money here, maybe a little lost there.

And you can say, well, there are a couple of things I can do. Number one, I better understand and make sure my top management team understands that this is something different. And we can't just deal with it the way that we've typically dealt with it. And yelling at the warehouse isn't gonna help. So that's number one. Number two is to look at your replenishment system. And most replenishment systems, I'm sad to say, are set when you buy it. They have different parameters, they set them and they kind of run with what they have.

Mark Graban: And you mean software systems?

Jonathan Byrnes: Software systems, yeah. “I sold this much, I need this much,” and so on and so forth. And but many of the best ones have the ability to put gates on how much you ship or how much is ordered. Because it's not only an issue for your shipping out. If you're in the middle as a distributor, let's say you're shipping out to the retailer or the customer and you're ordering from the supplier. So some of the best systems have gates where you can say, “Wait a minute, they ordered three times their historical demand. We are only going to allow them one times historical demand.”

Mark Graban: Right. So this is allocating that limited supply.

Jonathan Byrnes: Well, it's moving in that direction. So the first question is, can you do it? And then next is, what do you want to do? So the “can you do it” piece, in these companies that do have these very good systems, most of them have never used those parameters. They never needed to. So the first thing is to get your cracker jack IT people crawling over the system and saying, “What can we do with it?”

And then if you do have the ability, then you go back to your three categories: Peaks, Drains, and Deserts. And you can do, you know, you make a policy decision. You can go to your Peaks and say, “We can give you a hundred percent of your historical demand adjusted for where you are now. After that, we're not gonna let you hoard.”

And a lot of what's going on now is hoarding. That was a toilet paper issue, if you remember. And it's going on now with some commodities, certainly in the auto industry. The issue in the auto industry is that they have trouble getting hold of some critical pieces like semiconductors. And then the order goes down from the top saying, “Order everything, we are never gonna let that happen again.” And that lasts until the first price war. And then they're back in, “Come on, let's be lean again.”

But the right thing to do is to give a hundred percent to your Profit Peaks. And then for your Profit Drains, you can give them, say, 75% of their historical demands. And then the question comes up, “Won't they be angry at me because I'm not giving them what they want?” And the answer is that in customer service, there's good news, bad news, and no news.

• Good news means, “Yeah, we give you what you want.”
• Bad news means, “I'm sorry, there's no product there. We will promise you 75% of your historical demand; don't order more because we won't give it to you and our machine will cancel your orders.” So that's why you need that gating function in the system. Because there are more customers in orders than you've got clerks canceling the orders. You can't do it. So your computer does that and they can live with that. They'll find an alternative source or they'll change your production and they'll say, “Well, yeah, we have to live with it.”
• No news is, “I think I can get it for you.” “Oh, great.” “We promised it to our customers. We're ordering all the complimentary products and it's sitting here. Where's the stuff you told me I'd get?” And salesperson says, “I said I tried to get it, and unfortunately couldn't do it.” And that's the worst of all worlds.

So for your Profit Drain customers, those are big customers losing money. Nine times out of 10, the problem is not a below market price. Nine times out of 10, it's in the cost to serve. Either they're ordering five times a week when they should be ordering twice, or they have the wrong mix of products, or they're expediting too much. Those are all fixable. So then you can send a team into those customers and say, “Look, we have two choices. We can give you 75% of what you want, or if you'll order once a week, we can give you a hundred percent because you'll not be a peak.” And that allows you to shift a whole group of big customers from money losing to profit producing.

And for your Profit Deserts, the small ones, say they get 60%. The strategy there is typically to automate everything. Take all the people out of the system. Maybe they get 60% if they're not growable, or if they are growable and they don't sign the contract, they get 60%. But they can take that to the bank.

So the really deep question, when you have this supply blockage, most people think, “How do I get alternative supply? How do I get more resilience? How do I build up inventory?” To me, the real question is how do you deal with your customers? Because if you make a lot of promises and you don't keep them, they're not going to be very happy. But if you make a promise, even if it's not quite what they want, but you deliver a hundred percent of the time, they will be loyal and they'll understand. So I think that in this extended period, that was really the hard choice that people had to make.

The Coming Shockwaves: Hoarding and the Bullwhip Effect

Jonathan Byrnes: So now what's happening? Well, take away the ship that got stuck in the Suez Canal. That was a force majeure. You've got a limited capacity in the ports, particularly on the west coast because ecologically you can't dredge beyond what you currently have. So you have a supply chain, including a port that's tuned for a level amount of product–the lean product flow, plus or minus 10% variance–and all of a sudden you've got a supply chain where for a year nobody had inventory. Why would you pay for inventory when there's no demand?

And then along comes vaccination, along comes all the optimism and exuberance. And now everybody says, “My God, we're gonna have a million customers go get a ton of product.” It's sort of like the python that swallowed the pig. Number one, the suppliers don't have it because they're lean. Number two, you can't get it through these capacity constrained ports. And number three, everybody's trying to hoard.

Mike Kaufman, the CEO of Cardinal Health, was quoted as saying that in the early days of the pandemic, the demand for PPE (personal protective equipment) was 12 times historical demand. Because everybody wanted to hoard it. And so you've got this massive hoarding coming on with constrained capacity and the New York Times and the Wall Street Journal start writing articles about, “Woe is me, the supply chain doesn't work, let's not be lean anymore.”

The real question is how do we get over this hump? Because once we get over it and the thing stabilizes, the next question will be, “Why do we have all this inventory?” So the way to avoid it is to put people in allocation, to understand what your constraints are and not to allow hoarding. Then you still have a problem that people have to build their inventory, but they can build it. As demand increases, the inventory will build, but only to the point where it's supporting your so-called cycle stock.

Mark Graban: Yeah. So I mean, we go back to the demand spikes. At the beginning of the pandemic, there was an increased usage, like legitimate usage. And then I think on top of that, there was the hoarding. “We don't know how much more we're gonna need, so let's overorder.” In your article, the one thing you talk about as a way of managing that variance is the role of communication. Picking up the phone and having a conversation about “how many are you actually using?”

Jonathan Byrnes: That's right. But you don't have to do it with all the customers, only your really big ones and only your big, really big profitable ones that you're gonna support no matter what. And then you favor them with full allocations.

But the basic issue is that once this is over, in the case of PPE, you'll be back to lean again, wondering why you have all this inventory. And then it's gonna take another three or four months to draw that down while you're drawing it down. You're not ordering anymore. So the vendors say, “My God, there's no demand, shut the factory line,” and then all of a sudden it starts again and they don't have product to send you. And then you hoard again.

Mark Graban: They may have laid people off. They may have shut down the factory.

Jonathan Byrnes: Exactly. It's called the Bullwhip Effect, where you have increasing variance, increasing amplitude as you go farther and farther from the point of demand. And all of that can be avoided by keying everything on the consumption, which is really the key in coordinating the supply chain. But before you do that, you've gotta have communication and channel partners who work with each other.

So I see what's coming is a series of shock waves. Where you'll have hoarding, a drawdown, no product, can't get it, hoard again, and it'll just kind of winnow probably for a year or two.

Actually in the case of PPE and medical products, the smart thing to do is what the government started doing under George W. Bush. They established basically an insurance reserve of medical products. Subsequently, people didn't keep it up. They let it go bad, but that's where the bulge in demand should have been satisfied. So you can run lean and the government basically acts as an insurer. But we all know that people don't buy insurance until the day after the flood.

Now in the car companies, what they could do is take a look at their input products along two dimensions. One is, how likely is it that we're gonna be closed out of it? Is this coming in from Asia and it's bulky and we can't fly it? And number two, how important is it for the automobile? If it's something bulky and critically important, okay, get a strategic reserve, but don't do it for everything. If you have something big and bulky flowing out of Arizona to South Carolina, you're probably okay. So I think it's a matter of parsing it and understanding where you wanna carry your safety stock and where you wanna run lean.

Lean vs. Just-In-Time: Correcting the Record

Mark Graban: So to the point on lean, in your article you define lean and just in time far better than the Wall Street Journal typically has. The Wall Street Journal thinks just in time means low inventory and shipments from China. You defined lean using this phrase you touched on earlier, “compressing cycle time.”

When we look at Lean as a system, how does Toyota accomplish just in time? They have very stable annual cycles and the product doesn't really change that much from year to year. They intentionally level load production, which minimizes the variation back to suppliers. And those suppliers, if you look at Toyota in Japan or San Antonio, Texas, they have very local, if not onsite suppliers. To me, that minimizes some of that variance in demand on the suppliers and shipment reliability. That allows them to have a just in time system.

Where I think of Apple, I almost spit my coffee out when the Wall Street Journal said Apple was an example of just in time. Because I think of Apple has huge spikes in demand on new products. They're shipping or flying product from China. It seems like it's a completely different business model and a completely different supply chain model.

Jonathan Byrnes: It's completely different. At MIT, our best students go to McKinsey, BCG, or Apple or Amazon. At Apple, they do what's called S&OP, Sales and Operations Planning, which is managing and synchronizing supply and demand on a long term and short term basis.

The other part of just in time though, and I teach a case on this, is that it goes much deeper. In Japan they have very tight and very long-term relationships with their suppliers. Basically they will give them the certainty to invest in getting their costs down, invest in getting faster. When you're running a supply chain where every year or two the suppliers are fighting over who gets your contract, they're not gonna invest in a system improvement that may take three or four years to pay off.

So it's a really very different way of thinking about a business. A good just in time system is really quasi vertical integration. It's coordination across multiple mutually dependent organizations.

Mark Graban: Yeah. And if you look at how an automaker like Toyota would manage their supply chain, you have local suppliers and you can treat them one way. And then there are always the exceptions of the very specialized components that are only produced in one factory in Japan, and that one factory sells to all the automakers. And then there's an earthquake or a fire. A smart automaker would be holding inventory to protect against that supply chain risk, not just the normal variation. And in these articles talk about now, because chip shortages or resin shortages, that “Oh, Toyota's holding more inventory.” I'm like, well, I don't know if that's really a change in strategy. If they've identified a new risk, they're gonna hold more inventory. I don't think that's a change in the playbook at all. But the headline sort of declared the death of just in time. What's the old story about Mark Twain?

Jonathan Byrnes: “The reports of my death are premature.”

Mark Graban: The reports of just in time's demise are premature.

Jonathan Byrnes: I always think of Mark Twain who said, “You don't like the weather in New England? Wait a minute.”

The Root Beer Game and Current Exuberance

Mark Graban: We talk about what's happening as we come out of the pandemic. In a lot of cases, there was depressed demand and supply constraints, and now as the floodgates open back up, that creates new challenges. Thinking back to the bullwhip effect, at MIT we play the beer game. One of the lessons is learning to not overreact. If there's a blip in demand, that doesn't mean it's a trend. I was wondering if you could talk about strategies that companies could use when they see pent up demand and a blip.

Jonathan Byrnes: Actually the beer game is now called the Root Beer Game so that they can play it in the Middle East. You have teams of people with demand signals going to a distributor, going to a brewery, and these signals get more and more amplified. “Oh my god, it's going up! Get a lot of it!” “Oh my God, it's going down! Get rid of it all!” It's kind of human nature. They played it all over the world with a lot of different groups. Do you know what group had far and away the best performance?

Mark Graban: Oh, I hate to hazard a guess. What group?

Jonathan Byrnes: Elementary school kids in China. Because they were very literal. “It went up a little,” no second guessing.

What I worry about now is, I'm not convinced that the current exuberance from being released from being pent up is gonna be a long term trend. I think that from a deeper perspective, you have had tens of millions of people unemployed for a year or more. With no savings before this pandemic, people had spent down their credit, they had credit card debt, they ate into their home equity. Lay on top of that a year of no work. I worry more deeply that yes, everybody finally got a vaccination and they went out to dinner, they bought a car. I worry about the fundamentals taking root. I see on the paper this morning that business earnings are at an all time high. Well, look what's going on. How long will it last? I wouldn't bet the farm on this.

Mark Graban: So how would you describe the risk of a company overreacting? Does that mean gluts of inventory, depressed profits?

Jonathan Byrnes: Well, companies are rebuilding their inventory. They got rid of all the safety stock, specifically the slow movers. And you keep your fast movers. Now that you're replenishing, you're replenishing primarily slow moving inventory. So the big signal that goes back up to the factories is “stop production of the fast movers and make a lot of slow movers.” That's gonna go down and fill the supply chain with slow movers, and then there'll be a shortage of fast movers. And that's really gonna be death to the companies because that's where they make all their money. The whole thing is out of balance. And again, it'll take two or three cycles, maybe a half a year to a year or more to get back in balance.

Mark Graban: So the shock, it takes a while for those shock waves to calm down.

Jonathan Byrnes: Exactly.

Mark Graban: Thinking back to the Root Beer Game and the wild swings–I think of going back a year ago how hard it was to buy hand sanitizer. Now I can go down to the local grocery store and buy a ton of it real cheap. I'm sure there's more inventory than what's there on the shelf if there's such steep discounts. Is some of that a natural beer game type effect?

Jonathan Byrnes: Absolutely. I have a friend who had a marketing company and saw this demand for hand sanitizer and linked up with another person and started producing hand sanitizer. And now he's desperate for somebody to take a truckload. Can't find it. It's human nature. In economics, the term for it is the Cobweb Effect, where demand in this period is a function of supply in the prior period. So if supply was low in the prior period, price would go up and therefore it creates a lot more demand.

Competing Against the Digital Giants

Mark Graban: I want to also touch on the new book because I think a lot of people in the audience will find the book interesting. The book is Choose Your Customer: How to Compete Against The Digital Giants and Thrive. Who is the ideal or typical reader for the book?

Jonathan Byrnes: I think people running businesses. People ask me, “Amazon is tripling its sales… How can I compete with it?” What they don't step back and think about is that Amazon does only one thing well. Just one. They sell arms length to small customers in an information rich environment with network effects. They don't supply hospitals, they don't go onto the factory floor, they don't do customization. They do one thing: “I want a book.”

They had the brilliance to see that they had picked out a strategy that all of the other companies had ignored. 15 to 20 years ago, if you had said, “Who's your best customer?” The answer would've been “My big one.” Amazon went after the thousands, the long tail, the customers that nobody wanted, and then they turned it into a science. But they took a segment that nobody wanted.

The good news is that that leaves a wide open playing field in a lot of other very defensible high value strategies. It's not only for big businesses that can deliver to the factory floor of a hospital, but even local businesses specializing. If you're gonna sell books, sell esoteric books. If you're selling shoes, specialize in fitting athletes. Amazon's not gonna go to your house and measure your feet. People will pay more for that.

So people very often ask me, “How do I compete with Amazon?” And my answer is, “Don't. You're gonna get run over.”

Mark Graban: You're saying don't compete head on. Don't try to out-Amazon Amazon.

Jonathan Byrnes: What you want to do is you want to not be like Amazon. You want to do what Amazon did: Pick out a defensible piece of the market and make that your life. And you do that three ways:

1. Pick out the customers that hit that and say no to the ones that don't.
2. Focus your resources so that that's all you do, and you get better and better at it.
3. Form your organization so that that's what it accomplishes.

Hospitals that are all-purpose players are going to get torn apart by specialists in telehealth, specialists in wellness management, specialists in replacing knees locally. We have a fragmentation. It started with the internet that allowed providers to identify the needs of different segments of the market and focus on filling them correctly.

That's what the book is about. And the people who come and say, “Amazon is gonna take 10% of my customers,” the answer is, “Maybe it's the wrong 10%. Maybe you should get 10% to fit where you make money.”

I did the merger of New York and New England Telephone years ago. One of the questions that came up was, “Who are our best customers?” Everybody said Chase Manhattan Bank. The head of strategy, Bailey Geeslin, said, “No, our best customers are teenage girls in Queens and Long Island talking all night on the phone with minutes of use. That's where all our cash flow comes from. They don't bargain, they just use the services. Go to Chase Manhattan Bank and they're all over you negotiating the price.”

Mark Graban: It's an interesting thing to think through. I'm actually writing an article right now called “How to Make Your Best Customers Even Better.” Basically, you can go into your big customers, but if you go in with no ideas, then you're gonna have a negotiation. What you wanna do is go in and understand how to create value where formerly there was not any value.

I cite the example of Baxter. We created a business called Vendor Managed Inventory where we would go in and manage the inventory within the customer. We had 30% cost reduction in the hospitals, 20% cost reduction in Baxter, and sales went up by 35%. The ultimate win was not only reducing the cost for the hospital, but changing the paradigm of how they operated. That was the beginning of remote clinics and surgery centers. They didn't trust their supply chain before, but when they got the partnership with Baxter, they could do it.

That's why for the big customers, if you're not bringing that kind of innovation to the table, and all you're doing is asking for more money, the answer would be “I don't think so.” In the book we explain how to pick out the right segments, how to do the customer focus, focus the resources, and manage the company.

Mark Graban: Well, I hope people will go check out the book. Again, the title is Choose Your Customer: How to Compete Against The Digital Giants and Thrive. The author is Dr. Jonathan Byrnes. The software company is Profit Isle, and you can learn more about him and his consulting at https://www.google.com/search?q=jlbyrnes.com. So thank you so much for sharing with us today, and I really appreciate the chance to learn and think through these really important topics.

Jonathan Byrnes: Always a pleasure and it's always a joy to talk with you, Mark. I admire very much what you do. And I also want to very much thank the people who are listening in. I appreciate your interest.

Mark Graban: Thanks again to Professor Byrnes for joining us today. For links to his book and the articles and things we've mentioned here, you can go to leanblog.org/412. Please follow, rate and review.

Speaker: Thanks for listening. This has been The Lean Blog podcast. For lean news and commentary updated daily, visit www.leanblog.org. If you have any questions or comments about this podcast, email mark at leanpodcast@gmail.com.

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