Competitive Strategy Flashcards
Market Capitalism in Terms of Strategy
- Basis for what you do is meeting the needs of the customer and providing value
- individual Firm as the primary institution
- Competition for customers among firms
Successful Strategy
- successful firms achieve a sustainable competitive advantage
- businesses achieve competitive advantage by emphasizing cost (i.e. cheap) or value (i.e. the best) or both
Where can a Firm’s Strategy be found?
- in its investments in resources and capabilities that
a) determine its market position
b) defend this position from competitors
Market Positioning
- attention to the transaction with customers (key concept) is central to strategy and is the firms Economic Contribution between buyer/supplier
- two parts of the transaction
1. value to the customer minus the price (this determines demand for the product = buyer’s surplus)
2. price minus cost to the firm (this defines the firm’s profit)
Defending Market Position
- market position is protected through
1. retaining customers (e.g. high switching costs)
2. preventing imitation through: - property rights (e.g. patents)
- dedicated assets (e.g. specialized supplier)
- sunk costs (e.g. R&D)
- casual ambiguity (i.e. the difficulty of copying a key process)
What Determines Firm Profitability? (3 Factors)
- Macroeconomic Factors (e.g. national and global fiscal policies, taxes) EXAMPLE: EU Energy costs twice as much as the US or taxes on cigarettes
- Industry Factors (e.g. competition, entry barriers, buyer/supplier power, substitutes, technologies)
- **Characteristics of the business
a. Market Position (value offered and cost) determined by resources and capabilities
b. Isolating Mechanisms (customer retention, prevention of imitation)
c. Adaptability to changing market conditions
EXAMPLE: Rio (mining firm) adding value to a commodity by merging with a trader
Origins of Strategy
*adaptability is important
- industrial and evolutionary economics
- case studies of exemplary companies
- business and industry histories
- economic and organizational sociology
- strategic planning tools
- institutional economics
* chart:
vertically - focus of analysis
horizontally - assumption about how managers make decisions
Strategic Planning
- involves more control and innovation and better problem solving
- details the process for developing business strategies and links them to operational programs and investments (i.e. have a strategy but also have a plan to implement it)
- details the logic behind cash flow forecasts and provides a process for mission, goal setting, problem solving and innovation, etc.)
- firms can be successful without a strategic plan
EXAMPLE of bad strategic planning: Stroh’s Brewing - had goals but not a plan
Strategic Execution
- entails continuous development and improvement of resources and capabilities (companies sometimes fail because they get comfortable)
- elements include: task design, incentives & compensation, control & coordination systems, degree of consistency among firm’s activities, culture/HR
- firms CANNOT be successful without effective strategy execution
EXAMPLE of bad execution: Caterpillar in China
EXAMPLE of bad strategic planning: Brazil businessman Eike - was a better salesman than planner
GOOD execution - Mitsui & Co - using capabilities and resources together - segments working together at every stage of value chain
Industry Analysis (Porter’s 5 Forces)
A firm’s profits are impacted by 5 forces:
- Competition - stronger competition drives prices down
- Buyers - strong buyers demand higher value and lower prices
- Suppliers - strong suppliers lower the value delivered and raise prices
- Entry - easy entry into the industry typically drives prices down
- Technological Substitutions - strong substitutions force firms to raise value and lower prices
*compliments are also important - powerful ones may raise the product’s value
Strategy Over Time: Growth & Innovation
- firms must adapt to achieve success or remain successful (i.e. pay attention to what’s going on)
- adaptation involves investment in innovations to improve and defend the firm’s market position
Life Cycle of Typical Industry (4 Stages)
- Growth - entry-rate exceeds exit, focus on value, expansion
- Shakeout -people who don’t succeed drop out due to the emergence of a dominant/sustainable business model (e.g. IBM PC), exit rate exceeds entry
- Maturity - plateau - limited in/out, exit and entry rates are about the same, focus on cost
- Disruption and either Decline or Rejuvenation - technological substitutes offer a stronger buyers surplus which draws them away
Vertical Integration vs. Outsourcing vs. Strategic Alliance
Vertical Integration = company decides to take on more of the process of producing a product
Outsourcing = company takes on less production by shifting to an outside supplier (can only do so much to the point where you’re not learning and become vulnerable e.g. Chinese Price book)
Strategic Alliance = relationship between a firm and one of its suppliers in which the firm has more control than a typical market relationship
*these are all central to a firm’s strategy execution
Global Strategy
- global firms rely on both country-specific (e.g. japan and autos) and firm-specific strengths
- sometimes regions within countries are important (e.g. silicon valley)
EXAMPLE: Sysco - strong advantage in the US - can it compete in markets outside the US?
Strategy in Single-Business Firms
Offense = develop a strong market position
Defense = build isolating mechanisms against powerful buyers and competitors (i.e. protect the position)
Strategy in Multi-Business Firms
- create synergies so companies perform better together than they would apart
- provide resources and capabilities
- contribute management or entrepreneurial skills to the units
- build corporate infrastructure that supports the units
- initiate programs that enhance the units
Corporate Governance
- focus on the board of directors
1. regulatory concerns - policies that limit shareholder influence on the firm and those that set senior management compensation
2. Boards have the following general responsibilities: - compliance
- succession
- self-management
- advice and counsel to top management
- executive and director compensation
Three Questions of Business Strategy
- Where are we today?
- Where do we want to go?
- How are we going to get there?
If you don’t have agreement on this, the rest of the process will be very difficult
Keep asking these and re-visit answers constantly
Strategy of “How are we going to get there?” (5 further questions)
- How are we going to grow the business? Two major options - put in more money or acquire a business
- How are we going to build & retain a loyal customer base? e.g. special offers, etc.
- How will we stay ahead of our rivals? figure out what they are going to do (trade info, research, poaching employees, etc.)
- How are we going to organize & operate out business functions to assure alignment? e.g. protocol, operations, etc.
- How are we to boost performance?
Determinant of Firm Profitability
The key determinant is Structure of the Industry which determines the strength of Competitive Forces (which define the nature and size of the gap between revenues and costs)
Porter’s Five Forces That Shape Industry Competition
- Threat of New Entrants
- Bargaining Power of Suppliers
- Bargaining Power of Buyers (leverage)
- Threat of Substitute Products/Services (e.g. ipods replacing walkmans)
- Rivalry Among Existing Competitors
Industry’s Dominant Economic Factors
- market size & growth
- industry profitability
- number of rivals
- number of buyers
- demand-supply conditions
- extent of diversification
- degree or vertical integration
- potential for economies of scale
- degree of technological innovation
Firms Environment (Competitive Forces)
Firm's Environment... Reduces potential profitability when: - rivalry is intense - low entry barriers - attractive substitutes exist - suppliers and/or buyers have bargaining power
Enhances potential profitability when:
- rivalry is moderate or low
- high entry barriers
- attractive substitutes not available or likely
- suppliers and/or buyers lack leverage
Competitive Threat of New Products (Competitive Forces)
New Product/Services... Threat Stronger when: - low switching cost - favorable value/price proposition - attractive substitutes
Threat Weaker when:
- high switching cost
- unfavorable value/price proposition
- substitutes not available
Threat of New Entry (Competitive Forces)
Entry Threats... Stronger when: - entrant pool is large - margins are attractive - buyer demand growing - few barriers to entry - rivals not prepared to contest new entrants
Weaker when:
- entrant pool is small
- profitability low
- buyer demand stable
- high barriers to entry
- rivals ready to contest new entrants
Strength of Buyer Bargaining Power (Competitive Forces)
Bargaining Power... Stronger When: - low switching cost - buyer is large part of seller's business - market transparency high - buyers capable of organizing
Weaker When:
- high switching cost
- buyer is small part of seller’s business
- buyers uninformed regarding alternative suppliers
Strength of Supplier Bargaining Power (Competitive Forces)
Supplier Power... Stronger when: - high buyer switching costs - demand exceeds supply - threat of forward integration
Weaker when:
- suppliers are not differentiated
- supply exceeds demand
- threat of backward integration
Rivalry Competitive Pressures
Rivalry... Stronger When: - slow market growth - buyer switching cost low - great diversity among rivals - consolidation of rivals - emphasis on price cutting to increase volume
Weaker When:
- fast market growth
- buyer switching cost high
- limited diversity among rivals
- actions of single rival have little impact on others
Five Generic Competitive Strategies
- Broad Low-Cost Provider (cost) - e.g. Walmart
- Focused Low-Cost Provider (cost) e.g. Target
- Broad Differentiated Strategy (value) e.g. Tiffany
- Focused Differentiation Strategy (value) e.g. Mercedes
- Best Cost Provider Strategy (cost & value) e.g. best buy
Strategic Planning Should (9)
- require evaluation of the contribution of investments to financial goals (in the context of industry trends and competitor behavior)
- extend top management leadership and power
- neutralize decision-making basis
- overcome organizational drift (losing focus)
- identify what the org. needs to do to improve performance
- be distinct from strategy execution
- act as a tool for management decision-making
- generate commitment from employees and motivate systems of control
- be reviewed regularly and in response to unexpected and significant market changes
Decision Making Biases (3)
- Myopia - weighting short term over long terms outcomes, controlling for a discount rate (i.e. do you want $20 next week or $100 in two years
- Sunk Costs - continuing to invest in failing projects in hope of getting back the original investment
- Bias based on whether a decision is framed in terms of gains or losses - tending to be risk seeking in terms of losses and risk adverse to gains (prospect theory)
Strategic Planning Elements in a Single Business
- mission statement
- analysis of industry position
- financial & operating goals
- strategic initiatives
- program planning within each initiative
Advantages/Risks of Single Business
Advantages
- overall, easier to understand a clear understanding of purpose, etc.
- easier to allocate resources to respond to market conditions
Risks
- risk losing everything due
- viability of business can be easily threatened
- significant market changes can occur quickly
Industry Analysis
- necessary for a strategic plan
- provides a baseline for goal setting
- identifies how much firm performance is due to macroeconomic/industry factors
- should include a detailed estimate of direct/indirect strategies
- may be improved by scenario planning
Elements of Industry Analysis
- trends (EXAMPLE: carmakers harnessing the expertise of tech the tech world)
- regulatory factors (EXAMPLE: cigarettes - can’t smoke anywhere anymore)
- entry/exit rates
- industry experienced disruption?
- cost drivers
- industry profitability trend
- competitor analysis
Financial Goals
- setting goals to focus management attention and push management team to articulate which investments are strategically important Key questions 1. what is planning period? 2. what are the key financial metrics? 3. what should the goals be?
Planning Period
- depends on the volatility of strategic situation
- with an increase in the rate of market change, length of planning period must shorten
Financial & Operating Metrics
- Metrics should be centrally related to the firm’s economic performance in its product over time
- Metrics should reflect the value and cost drivers that determine the market’s position
Common Metrics include:
- Revenues
- Net Profits
- ROI
2 Measures of Business Performance
- Accounting measures of performance (widely accepted but criticized)
- Measures of economic performance - use capital market variables (market value, cost of capital)
Setting Goals
- managers rely on
1. historical performance
2. performance of competitors (firm below = vulnerable, firm tracks = subject to forces, firm high = needs focus)
Stretch Goals
- push management to exceed expected performance targets based on firm or industry trends
- stimulate a level of innovative beyond what management has already imagined
Strategic Initiatives
the essence of the strategic plan acting as the organizing framework for activities throughout the firm
Programs and Program Evaluation
Programs are created to achieve specific strategic initiatives (basic units through which the plan is executed)
- should be able to be valued financially
e. g. customer service - staff retention, customer relations management - develop strategy
Valuation
- discounted cash flows analysis (NPV)
- real options analysis (extension of financial - used for uncertain projects)
Planning in a Multi-Business Firm
- allocate financial resources to the business units through the internal capital market
- manage relationships among units
- centralize activities
- develop top-down initiatives
- build an effective corporate infrastructure
Resource Allocation
goal = to invest in and support those businesses within the portfolio whose projects produce the highest economic return for the firm
Centralization and Transfers
- inter-business relationships (plan outlines how transfer policies are aligned with the business units’ value and cost drivers)
- centralization of activities (plan articulates how shared or centralized activities contribute to business unit performance)
Top-Down Initiatives
the plan provides management with a vehicle to state its intended initiatives, to develop programs to assess their impact, to identify where new initiatives are warranted
Corporate Infrastructure
the plan offers an overview of how elements of the corporate infrastructure (e.g. HR, legal, IT) contribute to business unit performance of effective compliance
Competitive Advantage
- the GOAL of strategic thinking
- the focus of entrepreneurial action
- the motivation for top management’s vision of the future
- focus on economic fundamentals and performance
What Determines Sustained Competitive Advantage?
- Strong offense to attain market superiority (higher economic contribution (value - cost)
- Strong Defense of the market position against rivals (customer retention, defending against imitation)
- BOTH are necessary and neither is sufficient
Value-Cost Framework
- Value = **Willingness to Pay (highest price customer is willing to pay in absence of a competing product)
- Cost = marginal cost to produce a unit for the product at a given level of value
- Effective Competitive Positioning = offering more value per unit cost than competitors, consistently over time
Generic Competitive Strategies (2)
- Differentiator = invests in higher value (raising costs) (e.g. craft brewer)
- Cost Leader = invests in lower cost (reducing value)
- each have very different target markets (e.g. Budweiser)
- Assumption is firms SIM (stick in the middle) e.g. some airlines, cannot compete with differentiator on value nor cost leader on cost and it’s customer base is too small to allow it to improve its competitive advantage (e.g. Samsung
Value versus Cost Advantage (When to Pursue)
- Pursue Value when customers are value-sensitive and returns to increasing value are higher than returns on cost
- Pursue Cost reductions when marginal customers (those we don’t have yet) are price-sensitive and value improvements are costly, difficult or easy to duplicate
Examples of Value Drivers
- technology
- quality
- delivery
- breadth of line
- service
- customization
- geography
- environmental policies
Examples of Cost Drivers
- scale or volume economies
- scope economies (cost of producing two items together is lower than the cost of separately)
- learning curve
- low input costs
- vertical integration
- organizational practices
Isolating Mechanisms (2)
mechanisms that prevent industry forces from eating up the firm’s profits:
- Increasing Customer Retention with increased switching costs (e.g. search costs, transaction costs, learning costs)
- Barriers to Imitation with property rights, dedicated asses, sunk costs, casual ambiguity
Industries (in terms of analysis)
- Industry is composed of firms that provide value in functionally equivalent ways (e.g. fan vs. A/C), firms that compete directly and face common suppliers/buyers
- Firms create industries (not the other way around) by increasing strategic interaction and mutual dependence
Market Segmentation
- Industries can have more than one segment
- Segments are defined by the distribution of customer preferences (e.g. craft beer vs. bud)
- Firms align their product lines with one or more segments, which could overlap
Specialist Firm vs. Generalist Firm
Specialist tailors their product to one segment
Generalist designs their firm for many segments
Competition and its Types (3)
Competition may reduce prices while holding value and cost constant or increase value w/o increasing price or increase cost if higher value is required - all increasing the buyer surplus
- Perfect Competition - strong rivalry among similar firms
- Monopoly - absence of rivalry (produce less and charge more), not illegal but illegal to exploit
- Oligopolistic - found in concentrated industries where competition occurs among a few similar firms (due to high level of sunk costs and low ratio of market size/min set-up)
Tacit Collusion vs. Explicit Collusion
Tacit: (e.g. airlines)
- legal because of transparency (due to information signaling)
- may occur to make profits above the competitive outcome
Explicit = generally illegal
- coordination of firms through direct communication
- extreme cases lead to cartels (will ultimately fail)
Factors that Raise Barriers to Entry (3)
- Lower prices by Firms in the Industry
- High barriers to imitation
- High customer switching cost
Buyer Power Increased By…
- buyer concentration
- lower market growth
- availability of competing products
- percentage of product sold to the buyer
- low importance to the product to the buyer
- high importance of the product to the seller
- strong buyers force firms to lower the price
Supplier Power increased By…
- supplier concentration
- growth in demand for the firm’s product
- high strategic importance of supplier to the buyer
- low strategic importance of the buyer to the supplier
- strong suppliers increase the firm’s cost
Threat of Substitutes increases when…
…a firm has a low buyer surplus relative the substitute
- defenses include raising buyer surplus and raising switching costs
- strong substitutes force lower prices
Coordination Among Competitors
- cooperative pricing (not price-fixing) to avoid price competition with readily available pricing info
- inter-firm partnerships
- often depends on a price-leader
Cooperation between Buyers and Suppliers
- sharing information about operating decisions (e.g. logistics) and strategic decisions (e.g. technology development
- sharing resources and capabilities (e.g. TQM techniques)
Compliments
products in different industries whose patterns of demand are systematically positively correlated
e.g. skis and boots, sails and sailboats, tires and cars
Strategic Groups
a level of analysis between the firm and the industry
characteristics:
- firms within the industry that have similar cost and value drivers compared to firms in other groups
Mobility Barriers
- similar to barriers to entry to the industry - but between strategic groups
- keeps the competition from moving into a less profitable area to yours (e.g. tobacco keeping e-cigs out by preventing movement)
Industry Evolution
- all industries evolve over time as new firms enter and exit (not static, always changing)
- industry evolution threatens all sources of competitive advantage
- product life cycle is linked but not the same (industry cycle is longer)
Dynamic Growth Cycle
the cycle of a firm linking size, innovation, productivity, profitability and capacity expansion
Dynamic Capability
ability of a firm, as it grows, to build its innovative potential and exploit it effectively (all about learning) (e.g. CVS not selling cigarettes)
Path Dependence
tendency of a firm over time to invest in the innovations that are upwardly compatible with each other, thereby creating a relatively unique path of product and process development - could be a good or bad thing (e.g. adding to the assembly line for the Model T)
Adaptive Capacity
the ability of a firm to adopt the innovations developed by other organizations based on its prior experience with similar or related practices or technology (EXAMPLE: Nestle into medical foods)
Core Rigidity
the inability of a firm to adapt to changing market or technological conditions because of its attachment to its core practices and customers. making yourself obsolete. (e.g. Kodak) (e.g. Blackberry in tech article)
Early-Mover Advantage
- defined by combination of competitive advantage (short term) and dynamic capability (long term)
- opportunity to establish and defend a strong market position and to grow over a longer period of time
- higher chances of being exposed to opportunities for growth and innovation
Strategic Pricing
- pricing below marginal cost in order to attract additional buyers (don’t do this when the product is first launched)
- makes sense under two conditions:
1. when increases in volume are sustainable through customer loyalty due to high switching costs
2. when increased demand leads to lower costs for the firm through scale-driven cost drivers - risks
1. scale-driven costs don’t make up for lost profits
2. inability to protect cost advantages
3. higher demand doesn’t materialize
4. customers aren’t retained
What Determines a Shakeouts Severity? (3)
- expectations about future market demand and the degree of sunk costs (more sunk costs = more severe)
- ease of imitation of the dominant firms’ market position (if easy, get a price war)
- the existence of defendable niche markets
* about 6% of the firms in an industry exit during the shakeout every year
Indicators of Industry Maturity (4)
- Long-term leveling-off or decline in the market growth rate
- buyer experience with industry products (firms attempt to counter by introducing innovations that increase search and transition costs, lowering costs)
- high concentration of market share among large, relatively small firms
- persistence of niche markets
Industry Concentration
- depends on the ratio of market size to the minimum scale required to compete - the lower the scale, the more firms are viable (e.g. credit union)
- sunk cost investments in value drivers that have increasing returns to scale - higher sunk costs force out smaller rivals and deter entry
Hypercompetition
Combination of…
- multi-point competition - large firms compete across many products in many geographic regions, multi footholds ensure stability
- arms race - the requirement to develop product and process innovations to keep up with competitors
Types of Industry Disruption (3)
- Technological Substitution - intro of a radical new technology that has a higher rate of return on investment in R&D than current technology (e.g. CDs vs. VHS) (EXAMPLE: Tech powers article - Apple and IBM up while Kodak and Sony down)
- Disruptive Innovation - intro of a new product with lower value but much lower cost
- Radical Institutional Change - radical shift in the regulation of competition that opens the market to firms with innovative capabilities (e.g. net neutrality). Happens to Airlines, Banks, etc.
When can Incumbents Adapt to Industry Disruption?
- when they control the assets (e.g. distribution)
- when isolating mechanisms protecting the innovations are weak
- when incumbents can switch to the new innovation without large loss
Disruptive Technology Characteristics
- technology initially introduced by start-ups into niche markets - too small to attract attention by incumbents but eventually develop a dynamic growth cycle to penetrate core market
- product has lower initial functionality and cost but eventually complimentary assets (distribution) are not controlled by incumbents
- price-value of new product doesn’t initially attract customers in core market but over time, customers shift to new product (EXAMPLE: luxury brands in China article)
Resources
- observable and tradable
- contribute to the firm’s market position by improving value or lowering cost (or both)
- produce an economic advantage if difficult to imitate or neutralize
e. g. patents, brand, geographic location, people, process
Capabilities
- being able to do something
- cannot be observed
- contributes to higher value or lower cost or both
- less stable than a resource
- are produced by specific activities and policies (mapped by value chain framework and activity system framework)
Activity Systems
interconnected components of a firm that contribute to its market position (e.g. policies, programs, value chain, key resources, firm’s structure and culture)
Organizational Dimensions of Strategy Execution (4)
- complementarity (produce more effective outcome together than independently) and consistency (fit) among the firms resources, tasks and policies
- control and coordination of systems for the design and execution of tasks (e.g. standardized procedures, task forces)
- compensation and incentive systems (contribute to strategy execution with goal setting and rewards)
- culture and leaning behavior
Basic Options for Organizing (7)
- Geography - allows for understanding of needs but might cause ignorance outside area
- Function - allows for deep expertise in functional area but might cause ignorance of purpose in other functional areas
- Product - allows for deep expertise in product line but might cause ignorance of evolving trends outside product area
- Customer - allows for knowledge of needs & service focus but might cause limited cost & profit concerns
- Process - allows for standardization but might cause stage costs (difficult to measure)
- Knowledge - allows for specialists but might cause narrow view of experts
- Matrix - allows for optimal resource allocation but causes over-emphasis on structural anatomy vs. process and mindset
Problems with Incentive Systems (3)
- Controllability - managers unable to identify how much of the firm’s performance is due to skill, effort or luck
- Alignment - when crucial tasks are not measurable leading to overweighting tasks that are measurable
- Interdependency - when performance depends on the team and it’s hard to distinguish individual contributions
Culture and Learning
Effective strategy involves both:
- Culture (the software of the mind) - can be seen as the development of focal points for decision making
- Learning
- single-loop occurs within the constraints of the problem (e.g. how to we get out of this room?)
- double-loops raises the questions about the task parameters (e.g. why are we in this room? why is the room designed this way?) (EXAMPLE: Dominos in India making their own maps)
