Risks when entering a high growth market

As it has now been concluded that the electricity and heating markets for renewable energy in Germany is likely to continue their rapid growth, the author of this report, finds it highly relevant to highlight certain risks for HDG when potentially entering either of these two markets.

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The below illustration is from David A. Aaker & Damien Mcloughlin’s book “Strategic Market Management” which has been used as theoretical reference point throughout this report. The model explains how a company entering a high-growth market must acknowledge, and if possible, plan for certain risk factors;

Figure 11 - Source: “Strategic Market Management” by David A. Aaker & Damien Mcloughlin 2007.

This book is acclaimed for being a good explanatory tool of the combination of theory with real life case studies, and the author finds the above model highly valid for the purpose of this report. .

11.6.1. Competitive risks

The author is critically aware that the report is, to some extent, contradicting its previous conclusion of the market being one with sub-profitable income levels for the companies engaged; hence fewer companies are expected to enter and/or accept to operate with loss within this sub-market.

However with the forecasted development, of the heating market potentially becoming subject to further Energiewende reforms, which will promote the use of renewable energy in the attempt to raise energy efficiency reduce energy dependency on Russian imports, HDG must consider the heating market from a future perspective to be proactive in their strategic choices. When/if this

Competetive risks

• Overcrowding

• Superior competitive entry

Market change risks

• Changing KSFs*

• New technology

• Disappointing growth

• Price instability

Firm limitations

• resource constraints

• distribution unavailable High growth market

*KSF = Key success factors – this can to some degree be translated into competitive advantages and necessities.

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increased heat Energiewende becomes a reality, there will inarguably be more biomass energy suppliers entering the market, raising the risks of overcrowding in this market. An example of the consequences of overcrowding in a hyped B2B market is the early 2000’s online B2B market. In the year 2000 alone, the number of B2B companies, typically offering exchanges of information between various suppliers and customers, rose from around 280 to an unprecedented high of 1520 companies in one year! 3 years later, a massive shakeout had occurred and less than 200 companies of these previous 1520, were still trading in 2003.⁹⁰

The author acknowledges that the report previously established that certain entry barriers does exist in the biomass energy-supply market, hence the risk of overcrowding is not deemed to be similar to that of the online B2B market in the early 2000’s.

Also the risk of superior competitors entering the market will increase, when the market become visibly more attractive. What makes a superior competitor then? Quite often it is a case of a late mover entering the high growth market with a superior products/service, which erases the potential first mover advantages of the early entrants and through this superiority, steals market shares from other players. This potential threat makes it crucial for HDG to take advantage of the experience of their parent company HD, as their full supply-chain solution, which they are offering their Danish customers, could make HDG the superior competitor that smaller niche competitors are struggling to compete with. This is evidenced in the fact that HD is market leaders in Denmark, and the key reason for this being their comprehensive service offering, according to several of the interviewed managers.⁹¹

11.6.2. Market Change risks

The key success factors (KSFs), are different to competitive advantages, as these only describe the necessities for companies to be able to compete in a certain market. Mastering these KSFs can however be considered a competitive advantage, as the following scenario will highlight.⁹² Currently biomass energy supply to the German heating industry seems to be dominated by price/costs & resource availability. If we hypothetically consider HDG being the market leaders in

90 ”Shakeouts in Digital Markets”: Lessons from B2B exchanges

91 See interviews in appendix XXX

92 Chapter 8 in ”Strategic Market Management” by David A. Aaker & Damien Mcloughlin, European Edition, John Wiley and sons 2007.

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cost prices for their product/service and having the most reliable and low-cost supply of wood chips, compared to their competitors, this should leave them in strong position in the market (if they take advantage of these KSFs).

Again hypothetically (but not unrealistically, considering earlier findings), let us say the potential heating industry Energiewende brings along strict requirements to sustainable forestry as well as aiming at lowering the CO2 emissions from truck-distribution of forested products, the KSFs changes from being only cost and reliable supply driven. Now the best performers in the market need to have a supply from a sustainable forest source, and potentially be directly involved in planning for re-foresting their supply sources. They also need to consider their infrastructure and logging locations, to reduce the logistic distances between the forests and the CPH plants. If HDG does not succeed in this, it is likely that the above discussed superior competitor enters the market with all of these KSFs in hand, and through these “steals” the market shares that HDG enjoyed under the now obsolete KSFs.

The same scenario can be considered with changing technology requirements, which in the case of biomass energy supply could be a change to the fuel for CHP plants, a.e. wood for waste or wood chips for wood pellets etc. Predicting these technological scenarios was part of the earlier conducted technical environment analysis.

Disappointing market growth can also be the outcome of the recently introduced heat and CHP acts, as is often the case with markets that are being hyped by media and politicians alike. The amount of attention to the Germany energy industry, with its status as forerunner for most other economies and home of the feed-in-tariff system, means that not only regional and national media outlets are

following the developments on this market. A prime example of this is the fact that Barrack Obama and Angela Merkel had the German energy industry and the interdependence to Russia, on their agenda at their earlier discussed meeting on the 2^nd May 2014.⁹³ Disappointing growth can also occur on a market that might live up to the hype in the sense of overall market growth, but due to overcrowding, the capacity of suppliers to this market is exceeding these growth rates.

93 http://www.whitehouse.gov/the-press-office/2014/05/02/remarks-president-obama-and-german-chancellor-merkel-joint-press-confere

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The latter scenario leads us to the final market change risk in this model; Price instability. Once a market is overcrowded, the bargaining power of the customers increases accordingly, which naturally drives down prices and often results in a sub-profitable market for the majority of suppliers.⁹⁴

11.6.3. Firm limitations

Just like the overall focus of this report, the high-growth market risk analysis also highlights the importance of not only looking at the external environment and market conditions, but also having an introverted look at HDG/HD and their ability to cope with these demanding conditions. Resource constraints can occur from several levels of the organization, and therefore includes scarce financial resources, limited experience with expansion in a growth market, as well as organizational

constraints a.e. in the shape of not having the staff available or trained to operate under these demanding conditions.

Another limiting factor is the availability of distribution of the products, which in HDG’s case are logistic companies that specialize in logwood or wood chips distribution. Even if there is high growth to be reaped on the German heat market, and more biomass suppliers enters this market, these companies are still likely to be depending on more distribution channels becoming available for them. Should the German government, as earlier discussed, include an attempt to reduce CO2 emissions through applying governing instruments which apply to the distribution of biomass energy, there might be a drop in logistic companies wishing to supply their services to this sector, as this could involve having to change their fleet of vehicles or alternative costly investments.

The financial resources is a relatively easy matter for HD/HDG’s management to conclude on being either sufficient or insufficient, once a budget has been set up for this potential activity increase in Germany. This separate financial analysis is not enclosed in this report.

It is the organizational and strategic constraints that can typically be more difficult to interpret objectively, especially with long-serving managers, which might have adopted a certain managerial approach that lacks the ability to act proactively to forecasted market opportunities or threats.

94 ”Strategic Market Management” by David A. Aaker & Damien Mcloughlin, European Edition, John Wiley and sons 2007.

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11.7. Part conclusion to market-, and competitive environment, analysis