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Today’s gem is this diagram which outlines Winterhalter Gastronom’s vertical specialization strategy:
Winterhalter started by manufacturing dishwashing units for every vertical, but then they decided to specialize in the restaurant vertical and burn all other verticals.
Then, they expanded through the value chain for the restaurant vertical only (adding services, complimentary products, etc.).
Winterhalter went from stalled growth competing with every other dishwasher manufacturer to dominating the restaurant niche with over 25% market share.
My thoughts on vertical specialization
I am a huge fan of niche vertical businesses. I believe that an intangible asset forms in a business when all of its customers look identical. I will always favor strategies to gain vertical depth instead of horizontal breadth.
Here are some of the benefits a business gains when it picks 1 vertical and goes all in:
1) Increased pricing – vertical specialists can charge more for their products since they should be more tailored to the specific needs of customers within that vertical (more on this in the 3rd point).
2) Cost efficiencies – instead of spreading the sale/marketing dollars thin across a bunch of verticals, you can concentrate them. This will result in more efficient spend and ROI. All of the marketing can be tailored, reaching targets more efficiently and driving a much higher conversion rate.
3) Enhanced products – you can develop your products in a way that solves problems unique to customers within that vertical. This will make your R&D spend more efficient because you know exactly what you are building and for whom. Products become more tailored to your customers, making competing alternatives unattractive and switch costs high.
4) Barriers to entry – by focusing on a single vertical, the business will gain a “knowledge edge”. The business will know the vertical and understand its customers better than outsiders would – and vice versa, customers would all know and trust the business well. This makes it hard for new entrants to enter the vertical and replicate this.
Combine all this and the result is a business that generates higher profit margins, higher ROIC, and is harder to disrupt. Under the right circumstances, vertical specialization can result in a mini-monopoly or at least a dominant market share.
The usual criticism of vertical specialization is “but the TAM is too small“.
Firstly, I will say that most vertical markets are larger than people assume.
Secondly, like Winterhalter, you can expand along the value chain (especially via M&A) and offer other types of products/services that the end customers in that vertical need.
Lastly, I think TAM is a useless figure. It tells you nothing about the opportunities your business has access to. It’s better to focus your business on a vertical niche where you know you have an edge in, than try to chase a large TAM where you’ll be outcompeted.
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I discovered Winterhalter via a book called Hidden Champions. I’m about halfway through the book, it’s a great read. It profiles many unknown companies that have absurdly high market share in very niche markets.
