McKinsey & Company: Digitization has barely started, and so has the accompanying upheaval. Some key insights for winning strategies.

ByJacques  Bughin

Think digital is a big deal you ain't seen nothing yet

March 27, 2017 – All the talk of digital disruption turning incumbents into dinosaurs and unicorns into masters of entirely new domains might lead you to think this is already an old narrative—so 2016. In fact, digitization has barely started, and so has the accompanying upheaval.

Digital technologies and processes have penetrated only about 35% of the way into the average industry, meaning that merely a third of a typical company’s products and operations that could be digitized have been. Yet the impact has already been dramatic: Globally, digital disruption is shaving 45% off incumbent companies’ revenue growth and 35% off their earnings before interest and taxes (EBIT). As digitization accelerates, the hit to revenues and profits of digital laggards will grow significantly, even as the digital leaders capture disproportionate gains.

These findings emerge from a research effort my McKinsey colleagues and I undertook to examine the nature, extent, and implications of digitization’s spread. We wanted to understand how economic performance will change as digital technology continues its advance, and what strategies are most likely to win the game.

Digital disruption is already shaving 45% off incumbents’ revenue and 35% off their earnings

First, how did we track digitization? The most widely discussed dimension is the way digitization enables new entrants using disruptive models to penetrate existing industries. Today, our research finds, those digital newcomers own about 17% of total revenue worldwide.

But digitization has more dimensions than this. Technology can affect your product or service, such as turning a DVD into a digitally streamed experience or a service into a software offering. It can also transform how the product is delivered to the customer—through e-commerce versus retail stores, for example. Furthermore, digitization encompasses the automation of a company’s operations and processes, and can extend to the full industry supply chain and broader ecosystem, with customers linked via crowd-sourcing platforms and middlemen eliminated.

To date, incumbent companies have rarely ventured to disrupt their own markets: only 9% have adopted this approach. Rather, incumbents’ digital strategies have focused primarily on digital distribution and marketing, with almost half investing in this area. That focus is sensible given the extraordinary impact digitization has already had there—in fact, it’s really “table stakes” for staying in the game.
Where are companies focusing their forward-looking digital strategies?

Conversely, businesses have been slow to invest in digitizing supply chains—a mere 2% are focusing their digital strategies on that dimension—or creating broader digital ecosystems of the type Amazon and Alibaba have built. (I’ll explore why this delay may prove costly in a follow-up posting.)

All these dimensions are, of course, interrelated, and their combined impact varies among industries. Currently, media and high tech are the most digitally advanced of the 10 major sectors we studied, while automotive and consumer packaged goods (CPG) are the least digitized. While intuitively that’s not surprising, we discovered that the more digitally advanced an industry is, the larger the negative impact on incumbents that fail to act. The magnitude of this depressive effect is striking: In high tech, for instance, digitization’s negative impact on revenue growth is quadruple the average found across sectors. In contrast, in the automotive sector, the effect is only 60% of the average.
Digital is penetrating all sectors, but to varying degrees

Additionally, as digitization gets closer to full industry penetration, the impact grows significantly, roughly doubling the average hit to both revenues and profits from current average levels.
Digitization is putting pressure on revenue and profit growth

Another way to look at digitization’s progress is to see who is raking in the revenues from digital sources. Remember that digital attackers already hold 17% of total industry revenues (by definition, 100% of which are digital). Incumbents have launched their own digitization programs but, of course, only a portion of their revenue comes from digital sources: less than a quarter today.

Currently, incumbents, on average, still hold more of the total digital revenue, at 19% to attackers’ 17%. But that gap is small, and likely won’t last long. In fact, we may be approaching a major tipping point, where the entrants start to lead the digital race. What’s more, the further digitization has advanced within an industry, the bigger the role that attackers play. In media, for example, digital newcomers now hold 54% of digital revenues, while in CPG they only hold 41%.
Digital attackers are rapidly gaining ground on incumbents

So what is the upshot of these findings for you? Here are a few of our key insights.

    The economic pressure that digitization exerts is large and will increase with time. This makes it increasingly urgent for businesses to act. In time, all companies, no matter what their industry or how well they’re performing today, will be affected, our research shows—and those that have made the least progress on their digital journeys will suffer the most.
    Your investment in digitization needs to be precisely targeted. While a multi-dimensional approach is crucial, simply spreading the same amount of resources across all the dimensions is a losing proposition. Investing in digital distribution, for example, merely keeps you in the game: not doing so puts you at disadvantage, but doing it doesn’t provide a competitive advantage. To gain that advantage, you need to differentiate yourself by investing in the other dimensions that have seen less adoption, such as creating a digital ecosystem or revamping your supply chain.
    Digital strategy should not be built in a vacuum. Instead, it must be grounded in the broader corporate strategy that leverages digitization to tackle new business opportunities. The key to effectively responding to a digitizing world lies in applying bold, tightly integrated strategies to all the digital dimensions. Our research has highlighted a couple of specific strategies that significantly raise the odds of success. I will discuss them in my next post. Watch this space!

Jacques Bughin is a senior partner in our Brussels office and a director of the McKinsey Global Institute.

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