In brief
- Staying on the right technological path is never easy, a target operating model (TOM) ensures that you do exactly what you need to do, when you need to do it
- With a number of models available you can choose the methodology that’s specifically right for your organization
- By deploying a TOM, the whole organization can be aligned to a coherent journey, across specific targets or as an overall ideal giving you a blueprint for business efficiency, effectiveness and agility
- No one drives to a new destination without a map, why should your technology journey be any different?
Most digital transformation efforts fail to reach the set objectives. In banking, only 30% of banks state that the transformation was a success.
Across industries, the success rate isn’t much better. McKinsey found that although nine out of ten organizations go on a transformation journey, they manage to capture less than a third of the expected value. Even the top performers in digital transformations capture only around half of the potential revenue benefits, according to the same report.
Of course, the root causes behind a failed or less-than-fruitful digital transformation journey differ from one organization to another. That said, the lack of a target operating model (TOM) – or the presence of an unrealistic one – as the organization goes into digital transformation is a guaranteed recipe for disaster.
The same way you can’t start booking a flight without specifying your destination, you can’t set out on a digital transformation journey without defining the target state – i.e., your destination. Here’s how a target operating model will help you determine your destination – and how to flesh it out.
What is a target operating model (TOM)?
A target operating model describes how your organization should operate in an ideal setting to deliver value to your customers. It represents the desired future state for all the processes that make up your operations, in specific areas, or overall. The target operating model can be defined for the business as a whole or a part of it (e.g., customer service).
Together with the current operating model (COM), the target operating model is a part of the organization’s operating model. The two are inextricably linked: think of the COM as your departure point (your operations as they are now) and TOM as your destination (the vision of your operations in the ideal future).
Getting from COM to TOM is, ultimately, what business transformation is about.
Keep in mind that the target operating model isn’t the same as the business model:
- Business models are concerned with what the value proposition is and how to make the business economically viable – and profitable. A business model describes the what of business – the product offerings and revenue streams.
- Operating models, whether current or target, concern the how, where, and when of your organization. They describe the modalities of delivering that value to the customer, take for example how your customer service team deals with refund requests.
The target operating model is also different from the business strategy:
- Business strategies describe long-term initiatives to create value for customers and gain a competitive edge. They can change based on market dynamics and other external factors.
- Target operating models, in turn, translate that strategic intent outlined in the business strategies into specific business capabilities and key performance indicators.
Why you need a target operating model
While mapping out a TOM can be a resource-intensive undertaking, it’s worth the effort. Here are the four main benefits you stand to reap from target operating models.
Setting the right goals for transformation
The target operating model is the guiding star for any business transformation. It provides a comprehensive overview of everything that needs to be changed in order to deliver greater value and increase efficiency. This will help you avoid the trap of seeing the solution in a single action, such as introducing a new platform solution without transforming the underlying business processes.
Defining the point of arrival
Outlining the target operating model will do more than allow you to set the relevant strategic objectives to power qualitative change across a function or the whole organization. It will help you identify when you’ve reached your goals. To that end, however, you need to describe the target state using quantifiable key performance indicators.
Ensuring enterprise-wide strategic alignment
Beyond merely establishing the right goals, a target operating model serves as a strategic blueprint for the whole organization – and all key stakeholders across the value chain. This is crucial to secure the buy-in at all levels and ensure efforts across teams and departments remain aligned with the corporate strategy.
Identifying how to achieve operational excellence
Once you take stock of your current operating model and outline the target state, you will have a more comprehensive, holistic overview of your business processes. This view, in turn, is a prerequisite to pinpointing inefficiencies themselves and their root causes, as well as identifying what could be better – and how to make it so.
Achieving such an overview of your business processes is impossible without clear messaging and communication. So, engaging key stakeholders from the ground level to top management in outlining the path to operational excellence is a must.
4 frameworks for defining target operating models
Target operating models come in many shapes and forms; they can be as short as one page or as long as 10 or even 50 pages. On top of that, there’s no one-size-fits-all framework for outlining a target operating model.
That said, here are four TOM frameworks you may want to consider.
POLISM
Created by Ashridge Executive Education, POLISM is an acronym that stands for:
- Processes and business capabilities that comprise the operations
- Organization, i.e. the staff that is required for processes, plus the organizational structure, corporate culture, and talent management policies and practices
- Locations, buildings, infrastructure, and other assets that the operations require
- Information flow, both external and internal, and the systems that enable it
- Suppliers and business partners required to support the operations, along with the modalities of those partnerships
- Management processes and systems for defining and updating the strategy, planning transformation efforts, setting and monitoring the performance metrics, and enabling continuous improvement
POLISM is one of the most commonly used TOM frameworks. For example, the Operating Model Canvas uses it for defining the target operating model.
People, process, technology (+ governance)
In enterprise architecture, a target operating model consists of the following three key components:
- People. This includes all the personnel that enable the operations: their skills, roles, and responsibilities, as well as all the modalities of oversight and quality control.
- Process. This involves the operations themselves in the form of processes and workflows. If the target operating model concerns the whole organization, processes should cover every aspect of its operations, from risk management and compliance to customer service and supply chain management.
- Technology. This concerns all the technology solutions that enable the staff to do their jobs and for the processes to take place, from cloud capabilities to third-party integrations.
In certain cases, governance should be considered on par with these three components. For example, if the target operating model is part of your data strategy, governance should involve data quality control, data controls, management policies, compliance with privacy regulations, etc.
Governance mechanisms can also be used to establish a feedback loop and achieve operational excellence through Continuous Improvement of the TOM over time.
Processes, assets, configuration
Another approach to defining a target operating model, recently outlined by Peter Brodie, focuses on:
- Processes that compose both primary and secondary value chains, along with which employees are involved in each of them, and how they are involved
- Assets that are required for those processes, both physical (locations, equipment, infrastructure) and digital (technology solutions, both owned and consumed as a service)
- Configuration of the organization, which includes its structure, people management, and external partnerships
Luxoft’s approach
At Luxoft, we take a six-dimensional approach to defining a target operating model. It involves:
- Strategy: the vision and strategy of your value chain, from the goals to differentiation areas
- Governance: structure, key decision-makers, key performance indicators, decision-making policies and workflows, feedback and improvements, operational flexibility
- Organization and people: talent acquisition and retaining, cultural integration, change management
- Technology and data: all the tools and systems used in the value chain and data management
- Operations: processes required for creating and delivering value to customers (e.g., manufacturing, sales)
- Admin and support functions: processes required for business functioning but not directly related to producing value for customers (e.g., IT maintenance, accounting)
How to create a target operating model
Where do you start with a target operating model? Here are five steps towards creating one that will set up your transformation for success.
Have your COM ready
Before you can think of the future state for a TOM, you need to have a grasp on your current state of operations. Unless you’re designing a target operating model for a specific function, you’ll need to assess your organization’s processes and capabilities across the enterprise architecture:
- R&D
- Supply chain
- Manufacturing
- Marketing and sales
- Human resources
- Finance and accounting
- Finance and accounting
- Information technology
- Data management
- Customer service
- Legal and compliance
To gather all the information on the current processes and capabilities, you’ll need to turn to everyone, from the management team to frontline workers for input. Strive to not just understand how they work but also what needs they have, what does work in their workflows, and what challenges they encounter.
Identify the pain points
Your personnel likely have to deal with certain challenges that are prohibiting them from being at their most productive. Those challenges result in stress and frustration – and inefficiencies in your operations.
While you’re gathering information on the finer details of your processes, watch out for the signs of stress or frustration; these will signal which pain points need to be dealt with during the transformation.
See the potential for change
A target operating model isn’t just about fixing what doesn’t work: it’s also about revealing the areas of improvement that would otherwise go unnoticed. While removing pain points should be your top priority, it’s also worth taking a close look at your operations with a fresh perspective and asking: What could be better?
One approach to doing so is value-chain mapping. Here are its key steps:
- Pinpoint all the value propositions offered by the organization
- Define the value chain of activities every proposition requires
- Combine all the value chains in a map
- Identify the processes that can be aggregated, standardized, or kept separate
The aggregated business processes will allow you to leverage economies of scale, while standardization will create consistency in process quality and delivery. The processes that remain separate will allow for local adaptation.
Translate it into a target operating model
Once you have identified the pain points and their solutions, along with areas of improvement, it’s time to outline them in the target operating model itself.
For example, if your payroll employees currently have to waste time copying and pasting data into the accounting software, you can include a third-party integration to automatically import the said data in your target operating model.
Keep in mind that your employees’ feedback shouldn’t be the only driving force behind the target operating model. You’ll also need to factor in any foreseeable changes in the enterprise architecture, your business model and strategic goals, and available resources and market dynamics.
Be flexible and adaptable, however, as unforeseen challenges and opportunities will undoubtedly arise during implementation.
Next steps
With the target operating model complete, you can leverage it to create a roadmap from the current operating model to the desired future state. Make sure you sort the changes by priority, feasibility, and ROI – and start with the ones that will be the most impactful.
As it’s crucial to involve key stakeholders during the TOM design, it’s no less important after it’s ready. As you create the roadmap and implement changes, make sure that you have the buy-in – and that the whole organization is on the same page regarding the transformation.
3 target operating model case studies
TOMs are used by multinational corporations, SMEs, start-ups, and even government organizations. Depending on the size of the organization, the target operating model may be a plan to be achieved in a matter of months, years, or decades.
Here are three examples of organizations leveraging a target operating model to bring on change in their operations.
Amazon
This e-commerce powerhouse is famous for its approach to customer experience, with data and automation driving its improvements. Here are the four components of Amazon’s operating model:
- Consumer profit. Amazon leverages data to gain a deep understanding of profit by customer and Stock Keeping Unit (SKU). It also uses data to have a full overview of the purchase process to increase lifetime customer profitability, as opposed to focusing on revenues.
- Surgical actions. The enterprise strives for granularity in its actions at the customer, SKU, keyword, store, and transaction level. It switched to a new high-value action model to measure actions’ impact on customer lifetime value.
- Customer-centered metrics. Amazon shifted its focus to metrics that matter to customers and away from average values. Instead, the company concentrated on exceptions and outliers.
- Automated and coordinated execution. Instead of largely manual processes locked in silos, Amazon made task execution semi-automated and unlocked organizational silos with a combination of workflow changes, AI tools, and APIs.
Unilever
Unilever shifted from its matrix structure to a more category-focused operating model in 2022. The new target operating model reimagined the enterprise architecture as five distinct business groups, with each of them responsible for its own strategy, growth, and global profit delivery. The business groups are supported by Unilever’s Corporate Center and Unilever Business Operations.
The shift allowed the company to simplify its organizational structure, making it more agile in the long run.
Netflix
The story of Netflix switching from an online DVD rental business model to a streaming platform is a well-known one. But let’s take a close look at how the company changed its operating model to power the new business strategy.
At first, Netflix shifted gears to acquire as much third-party content as possible to be able to offer an expansive library to its subscribers. At the same time, the company had to build server capacity suitable for varying connection speeds and enable a comfortable viewing experience across devices.
To power the major change in the operating model, Netflix decided to invest in people with its exceptional HR policy. It focused on hiring talent from Amazon, Google, and Facebook and offered a competitive market-based salary with stock options to attract them.
In conclusion
Going on a transformation journey without a target operating model is akin to driving blind: you can’t be sure where to turn or even know when you’ve arrived. So, before you set out on it, take your time to assess your current operations and map out how they can be made better with changes in process, technology, or both.
A fresh perspective on the organization’s operations can be a valuable asset in designing a comprehensive, actionable target operating model. We can lend you that fresh perspective – along with decades of experience and expertise across 15 industries, from banking and capital markets to oil and gas. Get in touch with us to discuss all your TOM advisory needs.
Alexander Rubanov
Based in New York, Alex has 20 years of experience in managing complex software delivery projects and programs. At Luxoft he is responsible for delivery across multiple clients, focusing on effective execution and project success. For the past 9 years Alex has concentrated on the Financial Services sector and he holds the CFA Foundation certificate.
