Years ago, many strategy faculty members used to teach an old Harvard case study about the breakfast cereal industry. The U.S. industry operated as an oligopoly. A few firms dominated the market (General Mills, Kellogg, Post). The firms competed in terms of new brands, flavors, and the like, yet they tended to avoid competing heavily on price. The market leaders tended to have a stranglehold on the supermarket shelf, making it difficult for new players to enter the market. In short, the industry tended to be quite attractive for the incumbent players.
Things have changed. Cold cereal sales have declined by 6% over the past five years. As the Wall Street Journal reports today,
Cereal makers, under increasing competitive pressure, are struggling to improve sales of puffed rice, wheat flakes and oat clusters that were once a standard part of Americans’ morning routines. Fast-food chains are beckoning customers with new breakfast products and bacon-laden promotions. More people say they are eating less sugar and more protein, or forgoing breakfast altogether. Snack bars for on-the-go consumers are ubiquitous. “There’s a lot more competition for breakfast than there ever has been,” General Mills Inc. Chief Executive Jeff Harmening said in a recent interview.
What's the lesson from this story of the changing fortunes of the breakfast cereal industry? In many cases, the most serious competitive threat for a company does not come from its direct rivals. Instead, it comes from substitutes - i.e. alternative products and services that fulfill a similar human need. In other words, snack bars, yogurt, and fast-food restaurants have displaced cereal in the daily morning routine of many Americans. General Mills didn't get beat by Kellogg or vice versa. They are getting threatened by these substitutes. The same dynamic plays out in many industries. Often, this type of substitution threat proves much more difficult to detect in the early going, and then much more challenging to address moving forward. Executives have to think carefully and broadly about substitutes as they plot their firms' strategies. For instance, what's a substitute for auto insurance? Well, it might be Uber, Lyft, and other options that have reduced the number of people owning and driving personal automobiles.