Strategic Management I Write-Up on Article: What is Strategy?

Michael Porter argues that operational effectiveness, although necessary to superior performance, is not sufficient, because its techniques are easy to imitate. In contrast, the essence of strategy is choosing a unique and valuable position rooted in systems of activities that are much more difficult to match. He explains this through the following sections: I. Operational Effectiveness is not Strategy The operational agenda is the proper place for constant change, flexibility, and relentless efforts to achieve best practice. In contrast, the strategic agenda is the right place for defining a unique position, making clear trade-offs, and tightening fit The more benchmarking companies do, the more they look alike. Competition based on OE alone is mutually destructive, leading to wars of attrition that can be arrested only by limiting competition OE tools unwittingly draw companies towards imitation and homogeneity II. Strategy rests on Unique Activities The essence of strategy is in activities choosing to perform activities differently or to perform different activities than rivals Strategic competition can be thought of as the process of perceiving new positions that woo customers from established positions or draw new customers into the market Strategic positionings are often not obvious, and finding them requires creativity and insight. Various positionings include: Variety-Based Positioning, based on choice of product or service varieties rather than customer segments; Needs-Based Positioning, targeting a segment of customers; Access-Based Positioning, which can be a function of customer geography or scale Strategy is the creation of a unique and valuable position, involving a different set of activities III. A Sustainable Strategic Position required Trade-offs A valuable position will attract imitation by incumbents, through repositioning or straddling Trade-offs create the need for choice and protect against repositioners and straddlers Trade-off arises for 3 reasons: Inconsistencies in image or reputation; from activities themselves; from limits on internal coordination and control Positioning trade-offs are pervasive in competition and essential to strategy. If there are no trade-offs, companies will never achieve a sustainable advantage Strategy is making trade-offs in competing. The essence of strategy is choosing what not to do IV. Fit drives both Competitive Advantage and Sustainability While OE is about achieving excellence in individual activities, or functions, strategy is about combining activities Fit locks out imitators by creating a chain that is as strong as its strongest link. Strategic fit creates competitive advantage and superior profitability. Fit occurs through: Simple consistency between each activity and the overall strategy; when activities are reinforcing; optimization of effort Competitive advantage grows out of the entire system of activities Strategy is creating a fit among a companys activities. The success of a strategy depends on doing many things well not just a few and integrating among them V. Rediscovering Strategy Compromises and inconsistencies in the pursuit of growth will erode the competitive advantage a company had with its original varieties or target customers. Broadly, the prescription is to concentrate on deepening a strategic position rather than broadening and compromising it The strategic agenda demands discipline and continuity; its enemies are distraction and compromise Strategic continuity should make an organizations continual improvement more effective A companys choice of new position must be driven by the ability to find new trade -offs and leverage a new system of complementary activities into a sustainable advantage

The Theory of Business?

What to do has become the central challenge for companies that have enjoyed long -term success. The root cause of crisis that organizations are facing today is that right things are done but fruitlessly. The reason for this is that the theory of the business of organization doesnt fit reality. It no longer works. Theory of the business includes assumptions about markets, identifying customers and competitors, their value and behavior, technology and its dynamics, companys strengths and weaknesses and what a company gets paid for. A valid theory that is clear, consistent, and focused is extraordinarily powerful.When a company, which has been successful for many years, gets into trouble, it is because of failure to accept new reality. A theory of the business has three parts: 1. Assumptions about the environment of the organization: society and its structure, the market, the customer, and technology. 2. Assumptions about the specific mission of the organization. 3. Assumptions about the core competencies needed to accomplish the organizations mission. The assumptions about environment define what an organization gets paid for. The assumptions about mission define what an organization considers to be meaningful result. The assumptions about core competencies define where an organization must excel in order to maintain leadership. To be successful, every organization must have a clear, consistent, and valid theory of business. The specifications of a valid theory of the business are: 1. The assumptions about environment, mission and core competencies must fit reality. 2. The assumptions in all three areas have to fit one another. 3. The theory of the business must be known and understood throughout the organization. 4. The theory of the business has to be tested constantly. Eventually every theory of the business becomes obsolete and then invalid. The first reaction of an organization whose theory is becoming obsolete is almost always a defensive one. The next reaction is an attempt to patch. Instead, the organization should think and ask which assumptions about the environment, mission, and core competencies reflect reality most accurately with the clear premise that our historically transmitted assumptions no longer suffice. What needs to be done? 1. Need for Preventive Care This includes building into the organization systematic and monitoring and testing of its theory of the business. There are two preventive measures: abandonment and study what goes on outside the business, and especially to study noncustomers. A company should challenge its assumptions; otherwise it will be unable to capitalize on opportunities that are created when its theory of the business becomes obsolete. 2. Need for Early Diagnosis A theory of the business becomes obsolete when an organization attains its original objectives. Hence, new thinking is required. Rapid growth, unexpected success- whether ones own or a competitors, and unexpected failurewhether ones own or a competitors are signals that an organizations theory of the business is no longer valid. 3. Need to Rethink Theory This includes rethinking a theory that is stagnating and to take effective action in order to change policies and practices, bringing the organizations behavior in line with the new realities of its environment, with a new definition of its mission, and with new core competencies to be developed and acquired. This requires decisive action.

Building Your Companys Vision

Companies that enjoy enduring success have core values and a core purpose that remain fixed while their business strategies and practices endlessly adapt to a changing world. However,truly great companies understand the difference between what should never change and what should be open for change, between what is genuinely sacred and what is not. Vision provides guidance about what core to preserve and what future to stimulate progress toward. A wellconceived vision consists of two major components: 1. Core Ideology 2. Envisioned Future Core ideology, the yin in our scheme, defines what we stand for and why we exist. Yin is unchanging and complements yang, the envisioned future. The envisioned future is what we aspire to become, to achieve, to create something that will require significant change and progress to attain. 1. Core Ideology Core ideology defines the enduring character of an organization a consistent identity that transcends product or market life cycles, technological breakthroughs, management fads, and individual leaders. Core ideology consists of two distinct parts: Core Values: Core values are a system of guiding principles and tenets. Following questions make the crucial distinction between core values that should not change and practices and strategiesthat should be changing all the time: Can you envision them being as valid for you 100 years from now as they are today? Would you want to hold those core values, even if at some point one or more of them became a competitive disadvantage? If you were to start a new organization tomorrow in a different line of work, what core values would you build into the new organization regardless of its industry? Core Purpose: Core purpose is the organizations fundamental reason for existence.An effec tive purpose reflects peoples idealistic motivations for doing the companys work.Purposeis like a guiding star on the horizon forever pursued but never reached. One powerful method for getting at purpose is the five whys.. A primary role of core purpose is to guide and inspire. Confronted with an increasingly mobile society, cynicism about corporate life, and an expanding entrepreneurial segment of the economy, companies more than ever need to have a clear understanding of their purpose in order to make meaningful and thereby attract, motivate, and retain outstanding people. Core ideology is discovered and understood by looking inside the company. Finally, core competence is a strategic concept that defines your organizations capabilities what you are particularly good at whereas core ideology captures what you stand for and why you exist. 2. Envisioned Future The second primary component of the vision framework is envisioned future. It consists of two parts: Vision-level BHAG: Visionary companies used bold missions- Big, Hairy, Audacious Goals- as a powerful way to stimulate progress.A true BHAG is clear and compelling, serves as a unifying focal point of effort, and acts as a catalyst for team spirit. A BHAG engages people it reaches out and grabs them. It is tangible, energizing, highly focused.Companies create a vision-level BHAG by advising them to think in terms of four broad categories: target BHAGs, common-enemy BHAGs, role-model BHAGs, and internal-transformation BHAGs. Vivid Description: Vivid description is a vibrant, engaging, and specific description of what it will be like to achieve the BHAG. Passion, emotion, and conviction are essential parts of the vivid description.The visionary companies often realized their goals more by an organic process of lets try a lot of stuff and keep what works than by well -laid strategic plans. Their success lies in building the strength of the organization as the primary way of creating the future. Beware of the Weve Arrived Syndrome a complacent lethargy that arises once an organization has achieved one BHAG and fails to replace it with another.Building a visionary company requires 1% vision and 99% alignment. Creating alignment may be your most important work. But the first step will always be to recast your vision or mission into an effective context for building a visionary company. If you do it right, you shouldnt have to do it again for at least a decade.

Note on the Structural Analysis of Industries

This note is concerned with identifying the key structural features of industries that determine the strength of the competitive forces and hence industry profitability. The goal of competitive strategy for a business unit in an industry is to find a position in the industry where the company can best defined itself against these forces or can influence them in its favour. The principles of structural analysis apply equally to product and service business. Structural analysis also applies to diagnosing industry competition in any country or in an international market, though some of the institutional circumstances may differ. VI. Structural Determinants of the Intensity of Competition

Competition in the broader sense might be termed extended rivalry. The underlying structure of an industry, reflected in the strength of competitive forces, should be distinguished from the many short-run factors that can affect competition and profitability in a transient way. Threat of Entry: The threat of entry into an industry depends on the barriers to entry that the present, coupled with the reaction from existing competitors that the entrant can expect. If barriers are high and/or the newcomer can expect sharp retaliation from entrenched competitors, the threat of entry is low. Intensity of Rivalry among Existing Competitors: Rivalry occurs because one or more competitors either feels the pressure or sees the opportunity to improve position. As an industry matures, its growth rate declines, resulting in intensified rivalry, declining profits, and (often) a shakeout. Pressure from Substitute Products: Substitutes limit the potential of an industry by placing a ceiling on the prices firms can charge. Position vis--vis substitute products may well be a matter of collective industry actions. Substitute products that deserve most attention are those that (1) are subject to trends improving their price-performance tradeoff with the industrys product, or (2) are produced by industries earning high profits. Bargaining Power of Buyers: Buyers compete with the industry by forcing down prices, demanding higher quality or more services, and playing competitors off against each other all at the expense of profitability. Bargaining Power of Suppliers: Suppliers can exert bargaining power over participants in an industry by raising prices or reducing the quality of purchased goods and services. Powerful suppliers can thereby squeeze profitability out of an industry unable to recover cost increases in its own prices. VII. Structural Analysis and Competitive Strategy

Competitive strategy is talking offensive or defensive action in order to create a defendable position against the five competitive forces. Broadly, this involves a number of possible approaches: Positioning the firm so that its capabilities provide the best defence against the existing array of competitive forces; Influencing the balance of forces through strategic moves, thereby improving the firms relative position; or Anticipating shifts in the factors underlying the forces and responding to them, hopefully exploiting change by choosing a strategy appropriate to the new competitive balance before rivals recognize it.

Structural Analysis can be used to predict the eventual profitability of an industry. In long-range planning the task is to examine each competitive force, forecast the magnitude of each underlying cause, and then construct a composite picture of the likely profit potential of the industry. VIII. Structural Analysis and Industry Definition

If the broad sources of competition are recognized, however, and their relative impact assessed, then where the lines are actually drawn becomes more or less irrelevant to strategy formulation. Latent sources of competition will not be overlooked, nor will key dimensions of competition.

The Core Competence of the Corporation

Focusing on core competencies creates unique, integrated systems that reinforce fit among firms diverse production and technology skillsa systemic advantage competitors cant copy. CLARIFY CORE COMPETENCIES When clarifying competencies, entire organization should know how to support competitive advantage and readily allocates resources to build cross-unit technological and production links. These steps show how to clarify ore competencies: Articulate a strategic intent that defines company and its markets (e.g., NECs exploit the convergence of computing and communications). Identify core competencies that support that intent. Use the following questions: o How long could we dominate our business if we didnt control this competency? o What future opportunities would we lose without it? o Does it provide access to multiple markets? (Casios core competence with display systems let it succeed in calculators, laptop monitors, and car dashboards.) o Do customer benefits revolve around it? (Hondas competence with high-revving, lightweight engines offers multiple consumer benefits.) BUILD CORE COMPETENCIES Once organization has identified core competencies, it should enhance them by doing the following: Invest in needed technologies. Citicorp trumped rivals by adopting an operating system that leveraged its competenciesand let it participate in world markets 24 hours a day. Infuse resources throughout business units to outpace rivals in new business development. 3M and Honda won races for global brand dominance by creating wide varieties of products from their core competencies. Results? They built image, customer loyalty, and access to distribution channels for all their businesses. Forge strategic alliances. NECs collaboration with partners like Honeywell gave it access to the mainframe and semiconductor technologies it needed to build core competencies. CULTIVATE A CORE-COMPETENCY MIND-SET Competency-savvy managers work well across organizational boundaries, willingly share resources, and think long term. To encourage this mind-set: Stop thinking of business units as sacrosanct. That imprisons resources in units and motivates managers to hide talent as the company pursues hot opportunities. Identify projects and people who embody the firms core competencies. This sends a message: Core competencies are corporate not unitresources, and those who embody them can be reallocated. (When Canon spotted opportunities in digital laser printers, it let managers raid other units to assemble talent.) Gather managers to identify next-generation competencies. Decide how much investment each needs, and how much capital and staff each division should contribute.

Creating Competitive Advantage

A firm is said to have competitive advantage over its rival if it has driven a wide wedge between the willingness to pay it generates among buyers and the costs it incurs-indeed, a wider wedge its competitors can achieve. A firm with a competitive advantage is positioned to earn superior profits within its industry. To create competitive advantage: A firm must configure itself to do something unique and valuable. Full range of firms activities should act in harmony. The essence of creating advantage is finding an integrated set of choices that distinguishes a firm from its rivals. THE LOGIC OF VALUE CREATION AND DISTRIBUTION Willingness to Pay and Supplier Cost A customers willingness to pay for a product or service is the maximum amount of money that a customer would be willing to part with in order to obtain the service. Supplier opportunity is the smallest amount that a supplier will accept for the services and resources required to produce a good or service.

Added Value A firms added value is the maximal value created by all the participants in a transaction minus the maximal value that could be created without the firm. There are two basic ways a firm can establish an advantage: The firm can raise customers willingness to pay for its product without incurring a commensurate increase in supplier opportunity cost. The firm can devise a way to reduce supplier opportunity cost without sacrificing commensurate willingness to pay. ACTIVITY ANALYSIS OF COST AND WILLINGNESS TO PAY The Tension Between Cost and Willingness to Pay Widening the wedge is difficult because a firm must incur higher costs in order to deliver a product or service for which customers are willing to pay more. A firm can achieve a competitive advantage by Differentiation strategy: devising a way to raise willingness to pay a great deal with only slight increase in costs Low-cost strategy: devising a way to reap large cost savings with only slight decrease in customers willingness to pay Activity Analysis Sheer entrepreneurial insight can help identify opportunities to raise willingness to pay by more than costs or to drive down costs without sacrificing too much willingness to pay. To analyze competitive advantage, strategists typically break a firm down into discrete activities or processes and then exami ne how each contributes to the firms relative cost position or comparative willingness to pay. By analyzing a firm activity by activity, managers can: Understand why the firm does or does not have a competitive advantage. Spot opportunities to increase a firms competitive advantage. Foresee future shifts in competitive advantage. An analysis of activities proceeds in four steps:

Catalog Activities o Primary activities: directly generate a good or service. o Support activities: make the primary activities possible. Use Activities to Analyze Relative Costs o Starting point for the strategic analysis of competitive advantage. o Cost drivers allow managers to estimate competitors cost positions. Use Activities to Analyze Relative Willingness to Pay o Willingness to pay depends on intangible factors and perceptions that are hard to measure. o Three step process to measure willingness to pay: Think about who the real buyer is. What the buyer wants. How successful they and competitors are at fulfilling customers needs. Explore Options and Make Choices o Final step is to search for ways to widen the wedge between cost and willingness to pay.

In general, a firm should scour its value chain for, and eliminate, activities that generate costs without creating commensurate willingness to pay. It should also search for inexpensive ways to generate additional willingness to pay, at least among a segment of customers. The Whole Versus the Parts In the final step of exploring options, the management should work vigilantly to build a vision of the whole. As, competitive advantage comes from an integrated set of choices about activities.

Differentiation Versus Low Cost or Differentiation and Low Cost: A Contingency Framework

Porter's model is flawed in two important respects. Differentiation can be a means for firms to achieve an overall low-cost position. There are many situations in which establishing a sustained competitive advantage requires the firm to simultaneously pursue both low-cost and differentiation strategies because in many industries there is no unique low-cost position. Although Porter recognized that firms could pursue both low cost and differentiation successfully, he maintained that this could occur only in three circumstances: When all competitors are stuck in the middle When cost is strongly affected by share or interrelationships When a firm pioneers a major innovation Porter stressed that the combination of low cost and differentiation is unlikely to produce a sustainable competitive advantage. However, because increased market share enables the firm to reap scale economies, differentiation may be one way of establishing an overall low-cost position. Investment expenditure aimed at differentiating a product has two effects upon demand: Create brand loyalty, decreasing the price elasticity of demand for the firm's product. Broaden the appeal of a product, enabling the firm to capture more of the market at a given price and to increase the volume sold.

The immediate effect of differentiation will be to increase unit costs. However, if costs fall with increasing volume, the long-run effect may be to reduce unit costs. Three sources of declining costs can be identified: learning effects, economies of scale, and economies of scope. Differentiation and Demand: Contingencies Ability of the Firm to Differentiate Its Product The ability of the firm to differentiate its product is itself a function of two contingent factors: product characteristics and user characteristics. It might be possible to successfully differentiate a relatively homogeneous product if the psychosocial characteristics of consumers within a given user group are diverse. Competitive Nature of the Product Market Environment

The competitive nature of the product market environment moderates the relationship between differentiation expenditure and demand. There are two critical and significant contingent factors: Market structure The stage of product market evolution Although efforts to differentiate appear to be greatest in oligopolies, it does not follow that differentiation has the greatest impact on quantity demanded within oligopolistic markets. Product Life Cycle concepts suggest that competitive forces will be weaker in emerging or growth markets than in mature or declining markets, where growth is either slow or negative.

Commitment of Consumers to the Products of Rival Firms The costs of switching products and consumer brand loyalty for the products of rival firms are other factors that determine the extent to which differentiation can be used to increase demand. If the costs to users of switching to the firm's product are high, the impact that differentiation has on demand will be attenuated. Potential to Reduce Costs Economies Due to Learning Effects Learning effects are greatest during the start-up period associated with a new plant or process and that they decline and die out once a certain cumulative output is reached.The two major determinants of their importance are the age and the complexity of the manufacturing or service process used by an organization.

Economies of Scale There are two sources of scale economies: the plant level and the firm level. The concept of minimum efficient scale (MES) defines the minimum plant size necessary to realize plant-level scale economies.

First, once MES is reached, little in the way of additional cost reductions from plant-level scale economies is possible. Second, in many industries, the cost disadvantages of operating at substantially less than MES are slight. Third, in many industries, MES is reached at low levels of market share. Firms can exploit firm-level scale economies in marketing, buying, distribution, finance, and so forth as well as economies from multi-plant operations. Firm-level scale economies are industry dependent. Economies of Scope Firms whose differentiation strategy involves manufacturing a product line, economies of scope are a potentially important determinant of the extent to which differentiation can be used to establish a low-cost position. Bringing the Concepts Together Differentiation to Achieve Low Cost Differentiation is most consistent with achieving a low-cost position under the following circumstances: When the firm's ability to differentiate the product is high When consumers' commitment to the products of rival firms is low When market growth is high When market structure is fragmented When the production process is new and complex When economies of scale (particularly firm-level) are present When economies of scope exist Simultaneous Emphasis on Differentiation and Low Cost One way by which individual firms in the low- cost group could still gain additional cost economies, despite the exhaustion of scale and learning effects, is through differentiation by product line to achieve economies of scope. Once a firm has achieved a minimum-cost position, and efficiency among competing firms is equal, it can gain a sustainable competitive advantage only through some form of differentiation. The extent to which it is possible for a firm to do this without simultaneously jeopardizing the advantages of a mini- mum-cost position depends on how price-sensitive consumers are. In the auto industry, for example, major firms have differentiated their products and at the same time have not jeopardized their low-cost position. Indeed, once differentiation becomes an industry norm, then failure to differentiate by a firm may result in a declining market share and the loss of scale economies. Hence, differentiation may become the way a firm maintains its scale economies and safeguards its market share. Far from being incompatible, the simultaneous pursuit of both differentiation and low cost may be necessary to both establish and maintain a sustained competitive advantage.

How Industries Change

Four Trajectories of Change The two types of threats of obsolescence define trajectories of industry evolution: Threat to the industrys core activities activities that have historically generated profits for the industry Threat to the industrys core assets resources, knowledge, and brand capital that have historically made the organization unique

Radical Change The relevance of an industrys established capabilities and resources i s diminished by some outside alternative; relationships with buyers and suppliers come under attack; and companies are eventually thrown into crisis. The only reasonable approach to radical change is to focus on the endgame and its implications for your companys current strategy. Exiting isnt the sole option; sometimes a few survivors can sustain profitable positions after others leave the industry. Companies dealing with radical transformation must accept the inevitability of the change and chart a course that maximizes returns without accelerating commitment to the troubled business much easier said than done.

Intermediating Change Industries are on an intermediating change trajectory when their business activities for dealing in both downstream and upstream markets are simultaneously threatened. One of the most challenging because companies must simultaneously preserve their valuable assets and restructure their key relationships. During periods of intermediating change, pressure in the industry tends to build until it hits a breaking point, and then relationships break down dramatically only to be temporarily reconstituted until the cycle is repeated. Organizations that recognize the trajectory their industry is on can turn relatively calm periods into opportunities for strategic transformation.

Creative Change Innovation under creative change occurs in fits and starts. There are many ways for companies in an industry on a creative change trajectory to generate strong returns on invested capital. For instance, the leading companies in these industries tend to spread the risk of new- project development over a portfolio of initiatives.

Progressive Change The most profitable corporate strategies in progressive change industries generally involve carving out distinct positions based on geo- graphic, technical, or marketing expertise. The goal is to build resources and capabilities steadily and incrementally. Which Trajectory Are You On? To ensure accuracy, your analysis must be focused and systematic. Define your industry. Define the industrys core assets and activities. Determine whether the core assets and activities are threatened with obsolescence. Evaluate the phase of the evolutionary trajectory. Industry change generally takes place over a long period, and the options for dealing with change typically drop off sharply through each phase. The Industry Life Cycle Revisited

During an initial period of emergence, upstart firms warrant attention but may not be significant enough to prompt established companies to restructure. As the new approach converges in volume, established companies may react by reconfiguring some of their activities. During a period of coexistence, buyers and suppliers become increasingly sophisticated at evaluating the new approach, and as a result, new opportunities for value creation may emerge even in the old industry. During a final phase of dominance, the industrys products and services are evaluated on new criteria that reflect the popularity of the new approach.

Capitalizing on Industry Evolution Analyzing Radical and Intermediating Change Companies operating in an industry that is on a radical or intermediating change trajectory must perform a balancing actaggressively pursuing profits in the near term while avoiding investments that could later prevent them from ramping down their commitments. Radical and intermediating change also calls for new ways of dealing with competitive threats. It is also important to interpret conflict within your organization in a new way. Civil wars can emerge within an organization as divisions with exposure to different segments of the business develop opposing views about the nature and pace of change. It is uncanny how frequently this happens. Strong, central leadership is required to deal with the problem effectively. Surviving Radical and Creative Change Under these conditions, it is smart to evaluate how quickly your core assets are depreciating. The easiest way to do this is to identify how much you are spending to renew them.

The goal of this analysis should be to distinguish the segments in which you can protect your competitive position from those in which your position will erode quickly.

Managing Progressive Change The accumulated impact of incremental changes can raise the standards for doing business to the point where only a handful of companies are competitive. One of the most successful strategies for companies in industries on a progressive change trajectory is to develop a system of interrelated activities that are defensible be- cause of their compounding effects on profits, not because they are hard to understand or replicate. Adapting to the Stages of Change As all four trajectories typically unfold over decades, organizations have time to outline strategic options for the future. As change happens, fighting it is almost always too costly to be worthwhile. In the late stages, companies invite trouble by sticking with outdated budget systems and cost-accounting processes. Organizations must reconfigure themselves for lower revenue growth and develop the ability to move activities and resources out of the business. Diversifying Your Business Some of the major challenges of diversification have to do with sharing core activities and core assets across divisions on different trajectories, and developing clear lines of authority for resolving disputes between divisions as their industries create different investment requirements. It is virtually impossible to diversify profitably without understanding the differences in the trajectories and phases of industry change.