Managing Overcapacity in Industries and Supply Chains

Industry and Competitive Analysis

Karel Cool
The BP Chaired Professor of European Competitiveness
© Karel Cool, INSEAD, 2006
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Two Demand / Supply Scenarios

D D
S S

Time Time

© Karel Cool, INSEAD, 2006

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Causes of Structural Overcapacity

• Rigid supply

• Derived demand

• Technology scale push

• Assets ‘specific’ to the industry

• Globalisation dynamics

• Integrated chains

• “Strategic” entry motives

• Ego

© Karel Cool, INSEAD, 2006

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The Tragedy of the Commons

# OF SHEEP LITER / SHEEP TOTAL

© Karel Cool, INSEAD, 2006

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Managing Industry Capacity: a “DIY” Approach

1. Divide the area into separate plots

2. Make a list of legitimate users

3. Organize a lottery for who gets to use which plot

4. Rotate every week

5. Make it possible to buy/sell the right to use a spot

6. Arbitrator for dispute resolution

“Change the Rules of the Game”

© Karel Cool, INSEAD, 2006

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Managing the ‘Commons’: Champagne

• Excluding outsiders: ‘appellation contrôlée’

• Creating transparency / monitoring adherence to agreements:

• Enforcement of agreements:

• Cooperation worthwhile ‘enough’:

o Payoffs Cooperation >> Payoffs Defection
o Discount rate not ‘too’ high

• Trust:
o If discounted Payoffs Cooperation = Payoffs Defection
o Prob (cooperation) = f (cooperation choices in similar cases)

• Industry structure: leadership

• Negotiation framework: multiple issues?

© Karel Cool, INSEAD, 2006

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Industry Capacity and Profits

c/u
p/u

Capacity

© Karel Cool, INSEAD, 2006

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Post-Expansion Profits ...

c/u

p/u

Capacity

© Karel Cool, INSEAD, 2006

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Pyrrhic Victories

c/u

p/u

Capacity

© Karel Cool, INSEAD, 2006

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Learning to ‘time’ Capacity Expansion

• Petrochemical industry:

o Base plastics
o 1975-2000
o All firms worldwide

• Probability (expansion t )

o Rivals’ expansion: +++

o Time between expansions: +
o # of past expansions: ø
o Past ‘poor’ expansions: -
o Rivals’ poor expansions: ø
o Herfindahl: ø
o ‘Banking’ financed ++

Source: J. Henderson and K. Cool, Strategic Management Journal, 2003

© Karel Cool, INSEAD, 2006

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Cooperation…

Input Market/Inbound Activities

Compete Cooperate

Compete

Output Market/
Outbound activities

Cooperate

© Karel Cool, INSEAD, 2006