Strategic Management

Need of Strategic Management:-

1. Due to change
2. To provide guide lines
3. Research and development
4. Probability for business performance
5. ystemi!ed decision
". #mproves $ommunication
%. &llocation of resource
8. #mproves $oordination
9. 'elps the managers to have holistic approach
Importance of Strategic Management:-
1. To the shape the (uture of business
2. )ffective strategic idea
3. *angers and employer are innovative and creative
4. #ts decentrali!ed the *anagement
5. #ts helps to increase the productivity
". To *a+es discipline
%. To *a+e control
,. To ma+es for-ard s thin+ing
The Strategic Planning Process:
#n today.s highly competitive business environment/ budget0oriented planning or
forecast0based planning methods are insufficient for a large corporation to survive
and prosper. The firm must engage in strategic planning that clearly defines
ob1ectives and assesses both the internal and e2ternal situation to formulate strategy/
implement the strategy/ evaluate the progress/ and ma+e ad1ustments as necessary to
stay on trac+.
& simplified vie- of the strategic planning process is sho-n by the follo-ing
diagram3
The Strategic Planning Process
The Strategic Planning Process
Mission &
Objectives
Environmental
Scanning
Strateg
!orm"lation
Strateg
Implementation
Eval"ation
& #ontrol
Mission and Objectives
The mission statement describes the company.s business vision/ including the
unchanging values and purpose of the firm and for-ard0loo+ing visionary goals that
guide the pursuit of future opportunities.
4uided by the business vision/ the firm.s leaders can define measurable financial and
strategic ob1ectives. (inancial ob1ectives involve measures such as sales targets and
earnings gro-th. trategic ob1ectives are related to the firm.s business position/ and
may include measures such as mar+et share and reputation.
Environmental Scan
The environmental scan includes the follo-ing components3
#nternal analysis of the firm
&nalysis of the firm.s industry 5tas+ environment6
)2ternal microenvironment 5P)T analysis6
The internal analysis can identify the firm.s strengths and -ea+nesses and the
e2ternal analysis reveals opportunities and threats. & profile of the strengths/
-ea+nesses/ opportunities/ and threats is generated by means of a 78T analysis
&n industry analysis can be performed using a frame-or+ developed by *ichael
Porter +no-n as Porter.s five forces. This frame-or+ evaluates entry barriers/
suppliers/ customers/ substitute products/ and industry rivalry.
Strateg !orm"lation
4iven the information from the environmental scan/ the firm should match its
strengths to the opportunities that it has identified/ -hile addressing its -ea+nesses
and e2ternal threats.
To attain superior profitability/ the firm see+s to develop a competitive advantage
over its rivals. & competitive advantage can be based on cost or differentiation.
*ichael Porter identified three industry0independent generic strategies from -hich
the firm can choose.
Strateg Implementation
The selected strategy is implemented by means of programs/ budgets/ and
procedures. #mplementation involves organi!ation of the firm.s resources and
motivation of the staff to achieve ob1ectives.
The -ay in -hich the strategy is implemented can have a significant impact on
-hether it -ill be successful. #n a large company/ those -ho implement the strategy
li+ely -ill be different people from those -ho formulated it. (or this reason/ care
must be ta+en to communicate the strategy and the reasoning behind it. 8ther-ise/
the implementation might not succeed if the strategy is misunderstood or if lo-er0
level managers resist its implementation because they do not understand -hy the
particular strategy -as selected.
Eval"ation & #ontrol
The implementation of the strategy must be monitored and ad1ustments made as
needed.
)valuation and control consists of the follo-ing steps3
1. Define parameters to be measured
2. Define target values for those parameters
3. Perform measurements
4. $ompare measured results to the pre0defined standard
5. *a+e necessary changes
$#% %ro&th-Share Matri'
$ompanies that are large enough to be organi!ed into strategic business units face
the challenge of allocating resources among those units. #n the early 19%:.s the
;oston $onsulting 4roup developed a model for managing a portfolio of different
business units 5or ma1or product lines6. The ;$4 gro&th-share matri' displays the
various business units on a graph of the mar+et gro-th rate vs. mar+et share relative
to competitors3
$#% %ro&th-Share Matri'
Resources are allocated to business units according to -here they are situated on the
grid as follo-s3
#ash #o& 0 a business unit that has a large mar+et share in a mature/ slo-
gro-ing industry. $ash co-s re<uire little investment and generate cash that
can be used to invest in other business units.
Star 0 a business unit that has a large mar+et share in a fast gro-ing industry.
tars may generate cash/ but because the mar+et is gro-ing rapidly they
re<uire investment to maintain their lead. #f successful/ a star -ill become a
cash co- -hen its industry matures.
("estion Mar) *or Problem #hild+ 0 a business unit that has a small mar+et
share in a high gro-th mar+et. These business units re<uire resources to gro-
mar+et share/ but -hether they -ill succeed and become stars is un+no-n.
,og 0 a business unit that has a small mar+et share in a mature industry. & dog
may not re<uire substantial cash/ but it ties up capital that could better be
deployed else-here. =nless a dog has some other strategic purpose/ it should
be li<uidated if there is little prospect for it to gain mar+et share.
The ;$4 matri2 provides a frame-or+ for allocating resources among different
business units and allo-s one to compare many business units at a glance. 'o-ever/
the approach has received some negative criticism for the follo-ing reasons3
The lin+ bet-een mar+et share and profitability is <uestionable since
increasing mar+et share can be very e2pensive.
The approach may overemphasi!e high gro-th/ since it ignores the potential
of declining mar+ets.
The model considers mar+et gro-th rate to be a given. #n practice the firm
may be able to gro- the mar+et.
These issues are addressed by the 4) > *c?insey *atri2/ -hich considers mar+et
gro-th rate to be only one of many factors that ma+e an industry attractive/ and
-hich considers relative mar+et share to be only one of many factors describing the
competitive strength of the business unit.
The $"siness -ision and
#ompan Mission Statement
7hile a business must continually adapt to its competitive environment/ there are
certain core ideals that remain relatively steady and provide guidance in the process
of strategic decision0ma+ing. These unchanging ideals form the b"siness vision and
are e2pressed in the company mission statement.
#n their 199" article entitled Building Your Company's Vision/ @ames $ollins and
@erry Porras provided a frame-or+ for understanding business vision and
articulating it in a mission statement.
The mission statement communicates the firm.s core ideology and visionary goals/
generally consisting of the follo-ing three components3
1. #ore val"es to -hich the firm is committed
2. #ore p"rpose of the firm
3. -isionar goals the firm -ill pursue to fulfill its mission
The firm.s core values and purpose constitute its core ideology and remain relatively
constant. They are independent of industry structure and the product life cycle.
The core ideology is not created in a mission statementA rather/ the mission statement
is simply an e2pression of -hat already e2ists. The specific phrasing of the ideology
may change -ith the times/ but the underlying ideology remains constant.
The three components of the business vision can be portrayed as follo-s3
#ore
-al"es



#ore
P"rpos
e





$"siness
-ision




#ore -al"es
The core values are a fe- values 5no more than five or so6 that are central to the
firm. $ore values reflect the deeply held values of the organi!ation and are
independent of the current industry environment and management fads.
8ne -ay to determine -hether a value is a core value to as+ -hether it -ould
continue to be supported if circumstances changed and caused it to be seen as a
liability. #f the ans-er is that it -ould be +ept/ then it is core value. &nother -ay to
determine -hich values are core is to imagine the firm moving into a totally
different industry. The values that -ould be carried -ith it into the ne- industry are
the core values of the firm.
$ore values -ill not change even if the industry in -hich the company operates
changes. #f the industry changes such that the core values are not appreciated/ then
the firm should see+ ne- mar+ets -here its core values are vie-ed as an asset.
(or e2ample/ if innovation is a core value but then 1: years do-n the road
innovation is no longer valued by the current customers/ rather than change its
values the firm should see+ ne- mar+ets -here innovation is advantageous.
The follo-ing are a fe- e2amples of values that some firms has chosen to be in their
core3
e2cellent customer service
pioneering technology
creativity
integrity
social responsibility
#ore P"rpose
The core purpose is the reason that the firm e2ists. This core purpose is e2pressed in
a carefully formulated mission statement. Bi+e the core values/ the core purpose is
relatively unchanging and for many firms endures for decades or even centuries.
This purpose sets the firm apart from other firms in its industry and sets the direction
in -hich the firm -ill proceed.
The core purpose is an idealistic reason for being. 7hile firms e2ist to earn a profit/
the profit motive should not be highlighted in the mission statement since it provides
little direction to the firm.s employees. 7hat is more important is how the firm -ill
earn its profit since the Cho-C is -hat defines the firm.
#nitial attempts at stating a core purpose often result in too specific of a statement
that focuses on a product or service. To isolate the core purpose/ it is useful to as+
C-hyC in response to first0pass/ product0oriented mission statements. (or e2ample/ if
a mar+et research firm initially states that its purpose is to provide mar+et research
data to its customers/ as+ing C-hyC leads to the fact that the data is to help customers
better understand their mar+ets. $ontinuing to as+ C-hyC may lead to the revelation
that the firm.s core purpose is to assist its clients in reaching their ob1ectives by
helping them to better understand their mar+ets.
The core purpose and values of the firm are not selected 0 they are discovered. The
stated ideology should not be a goal or aspiration but rather/ it should portray the
firm as it really is. &ny attempt to state a value that is not already held by the firm.s
employees is li+ely to not be ta+en seriously.
-isionar %oals
The visionary goals are the lofty ob1ectives that the firm.s management decides to
pursue. This vision describes some milestone that the firm -ill reach in the future
and may re<uire a decade or more to achieve. #n contrast to the core ideology that
the firm discovers/ visionary goals are selected.
These visionary goals are longer term and more challenging than strategic or tactical
goals. There may be only a 5:D chance of reali!ing the vision/ but the firm must
believe that it can do so. $ollins and Porras describe these lofty ob1ectives as C;ig/
'airy/ &udacious 4oals.C These goals should be challenging enough so that people
nearly gasp -hen they learn of them and reali!e the effort that -ill be re<uired to
reach them.
*ost visionary goals fall into one of the follo-ing categories3
Target 0 <uantitative or <ualitative goals such as a sales target or (ord.s goal
to Cdemocrati!e the automobile.C
#ommon enem 0 centered on overta+ing a specific firm such as the 195:.s
goal of Philip0*orris to displace R@R.
.ole model 0 to become li+e another firm in a different industry or mar+et.
(or e2ample/ a cycling accessories firm might strive to become Cthe Ei+e of
the cycling industry.C
Internal transformation 0 especially appropriate for very large corporations.
(or e2ample/ 4) set the goal of becoming number one or number t-o in
every mar+et it serves.
7hile visionary goals may re<uire significant stretching to achieve/ many visionary
companies have succeeded in reaching them. 8nce such a goal is reached/ it needs to
be replacedA other-ise/ it is unli+ely that the organi!ation -ill continue to be
successful. (or e2ample/ (ord succeeded in placing the automobile -ithin the reach
of everyday people/ but did not replace this goal -ith a better one and 4eneral
*otors overtoo+ (ord in the 193:.s.
#ompetitive /dvantage
7hen a firm sustains profits that e2ceed the average for its industry/ the firm is said
to possess a competitive advantage over its rivals. The goal of much of business
strategy is to achieve a sustainable competitive advantage.
*ichael Porter identified t-o basic types of competitive advantage3
#ost advantage
,ifferentiation advantage
& competitive advantage e2ists -hen the firm is able to deliver the same benefits as
competitors but at a lo-er cost 5cost advantage6/ or deliver benefits that e2ceed those
of competing products 5differentiation advantage6. Thus/ a competitive advantage
enables the firm to create superior value for its customers and superior profits for
itself.
$ost and differentiation advantages are +no-n as positional advantages since they
describe the firm.s position in the industry as a leader in either cost or differentiation.
& resource-based view emphasi!es that a firm utili!es its resources and capabilities
to create a competitive advantage that ultimately results in superior value creation.
The follo-ing diagram combines the resource0based and positioning vie-s to
illustrate the concept of competitive advantage3
/ Model of #ompetitive /dvantage
Resources

Distinctive
$ompetencies
$ost &dvantage
or
Differentiation &dvantage
Falue
$reation
$apabilities

.eso"rces and #apabilities
&ccording to the resource0based vie-/ in order to develop a competitive advantage
the firm must have resources and capabilities that are superior to those of its
competitors. 7ithout this superiority/ the competitors simply could replicate -hat
the firm -as doing and any advantage <uic+ly -ould disappear.
.eso"rces are the firm0specific assets useful for creating a cost or differentiation
advantage and that fe- competitors can ac<uire easily. The follo-ing are some
e2amples of such resources3
Patents and trademar+s
Proprietary +no-0ho-
#nstalled customer base
Reputation of the firm
;rand e<uity
#apabilities refer to the firm.s ability to utili!e its resources effectively. &n e2ample
of a capability is the ability to bring a product to mar+et faster than competitors.
uch capabilities are embedded in the routines of the organi!ation and are not easily
documented as procedures and thus are difficult for competitors to replicate.
The firm.s resources and capabilities together form its distinctive competencies.
These competencies enable innovation/ efficiency/ <uality/ and customer
responsiveness/ all of -hich can be leveraged to create a cost advantage or a
differentiation advantage.
#ost /dvantage and ,ifferentiation /dvantage
$ompetitive advantage is created by using resources and capabilities to achieve
either a lo-er cost structure or a differentiated product. & firm positions itself in its
industry through its choice of lo- cost or differentiation. This decision is a central
component of the firm.s competitive strategy.
&nother important decision is ho- broad or narro- a mar+et segment to target.
Porter formed a matri2 using cost advantage/ differentiation advantage/ and a broad
or narro- focus to identify a set of generic strategies that the firm can pursue to
create and sustain a competitive advantage.
-al"e #reation
The firm creates value by performing a series of activities that Porter identified as
the value chain. #n addition to the firm.s o-n value0creating activities/ the firm
operates in a value system of vertical activities including those of upstream suppliers
and do-nstream channel members.
To achieve a competitive advantage/ the firm must perform one or more value
creating activities in a -ay that creates more overall value than do competitors.
uperior value is created through lo-er costs or superior benefits to the consumer
5differentiation6.
#ore #ompetencies
#n their 199: article entitled/ The Core Competence of the Corporation/ $.?.
Prahalad and 4ary 'amel coined the term core competencies/ or the collective
learning and coordination s+ills behind the firm.s product lines. They made the case
that core competencies are the source of competitive advantage and enable the firm
to introduce an array of ne- products and services.
&ccording to Prahalad and 'amel/ core competencies lead to the development of
core products. $ore products are not directly sold to end usersA rather/ they are used
to build a larger number of end0user products. (or e2ample/ motors are a core
product that can be used in -ide array of end products. The business units of the
corporation each tap into the relatively fe- core products to develop a larger number
of end user products based on the core product technology. This flo- from core
competencies to end products is sho-n in the follo-ing diagram3
#ore #ompetencies to End Prod"cts
End Products
1
2
3
4
5
"
%
,
9
1:
11
12
$"siness
0
$"siness
1
$"siness
2
$"siness
3


#ore Prod"ct
0



#ore Prod"ct 1


#ompetence
0
#ompetence
1
#ompetence
2
#ompetence
3
The intersection of mar+et opportunities -ith core competencies forms the basis for
launching ne- businesses. ;y combining a set of core competencies in different
-ays and matching them to mar+et opportunities/ a corporation can launch a vast
array of businesses.
7ithout core competencies/ a large corporation is 1ust a collection of discrete
businesses. $ore competencies serve as the glue that bonds the business units
together into a coherent portfolio.
,eveloping #ore #ompetencies
&ccording to Prahalad and 'amel/ core competencies arise from the integration of
multiple technologies and the coordination of diverse production s+ills. ome
e2amples include Philip.s e2pertise in optical media and ony.s ability to miniaturi!e
electronics.
There are three tests useful for identifying a core competence. & core competence
should3
1. provide access to a -ide variety of mar+ets/ and
2. contribute significantly to the end0product benefits/ and
3. be difficult for competitors to imitate.
$ore competencies tend to be rooted in the ability to integrate and coordinate
various groups in the organi!ation. 7hile a company may be able to hire a team of
brilliant scientists in a particular technology/ in doing so it does not automatically
gain a core competence in that technology. #t is the effective coordination among all
the groups involved in bringing a product to mar+et that results in a core
competence.
#t is not necessarily an e2pensive underta+ing to develop core competencies. The
missing pieces of a core competency often can be ac<uired at a lo- cost through
alliances and licensing agreements. #n many cases an organi!ational design that
facilitates sharing of competencies can result in much more effective utili!ation of
those competencies for little or no additional cost.
To better understand ho- to develop core competencies/ it is -orth-hile to
understand -hat they do not entail. &ccording to Prahalad and 'amel/ core
competencies are not necessarily about3
outspending rivals on RGD
sharing costs among business units
integrating vertically
7hile the building of core competencies may be facilitated by some of these actions/
by themselves they are insufficient.
The 4oss of #ore #ompetencies
$ost0cutting moves sometimes destroy the ability to build core competencies. (or
e2ample/ decentrali!ation ma+es it more difficult to build core competencies because
autonomous groups rely on outsourcing of critical tas+s/ and this outsourcing
prevents the firm from developing core competencies in those tas+s since it no
longer consolidates the +no-0ho- that is spread throughout the company.
(ailure to recogni!e core competencies may lead to decisions that result in their loss.
(or e2ample/ in the 19%:.s many =.. manufacturers divested themselves of their
television manufacturing businesses/ reasoning that the industry -as mature and that
high <uality/ lo- cost models -ere available from (ar )ast manufacturers. #n the
process/ they lost their core competence in video/ and this loss resulted in a handicap
in the ne-er digital television industry.
imilarly/ *otorola divested itself of its semiconductor DR&* business at 25"?b
level/ and then -as unable to enter the 1*b mar+et on its o-n. ;y recogni!ing its
core competencies and understanding the time re<uired to build them or regain them/
a company can ma+e better divestment decisions.
#ore Prod"cts
$ore competencies manifest themselves in core products that serve as a lin+ bet-een
the competencies and end products. $ore products enable value creation in the end
products. )2amples of firms and some of their core products include3
3* 0 substrates/ coatings/ and adhesives
;lac+ G Dec+er 0 small electric motors
$anon 0 laser printer subsystems
*atsushita 0 F$R subsystems/ compressors
E)$ 0 semiconductors
'onda 0 gasoline po-ered engines
The core products are used to launch a variety of end products. (or e2ample/ 'onda
uses its engines in automobiles/ motorcycles/ la-n mo-ers/ and portable generators.
;ecause firms may sell their core products to other firms that use them as the basis
for end user products/ traditional measures of brand mar+et share are insufficient for
evaluating the success of core competencies. Prahalad and 'amel suggest that core
product share is the appropriate metric. 7hile a company may have a lo- brand
share/ it may have high core product share and it is this share that is important from
a core competency standpoint.
8nce a firm has successful core products/ it can e2pand the number of uses in order
to gain a cost advantage via economies of scale and economies of scope.
Implications for #orporate Management
Prahalad and 'amel suggest that a corporation should be organi!ed into a portfolio
of core competencies rather than a portfolio of independent business units. ;usiness
unit managers tend to focus on getting immediate end0products to mar+et rapidly
and usually do not feel responsible for developing company0-ide core
competencies. $onse<uently/ -ithout the incentive and direction from corporate
management to do other-ise/ strategic business units are inclined to underinvest in
the building of core competencies.
#f a business unit does manage to develop its o-n core competencies over time/ due
to its autonomy it may not share them -ith other business units. &s a solution to this
problem/ Prahalad and 'amel suggest that corporate managers should have the
ability to allocate not only cash but also core competencies among business units.
;usiness units that lose +ey employees for the sa+e of a corporate core competency
should be recogni!ed for their contribution.
#orporate Strateg:
Tpes of #orporate Strateg:
Strategic Management Concepts
&lthough the term Hstrategic managementI is bantered around a lot in the businesses
-orld/ it is not understood very -ell by most people. )ssentially strategic
management ans-ers the <uestions of H-here do you -ant your business to goI
5goals6/ Hho- is your business going to get thereI 5strategy6 and Hho- -ill you +no-
-hen you get thereI 5evaluation6. & strategic management analogy is ta+ing a trip
during your vacation. (irst you decide -here you -ant to go J the natural beauty of
Kello-stone or the bright lights of Bas Fegas. Then you develop a strategy of ho- to
get there J ta+e an airplane 5-hich flights6/ drive your car 5-hich high-ays6/ etc.
This -ill be influenced by the amount of money/ time and
8ther resources you have available. Then you monitor your trip to see if your
strategy ta+es you to your destination and ho- your strategy -or+ed 5missed
(lights/ poor road conditions/ etc.6. ;elo- are concepts to help e2pand your
understand of strategic management for a business. These -ill help sharpen your
focus for using trategic *anagement for a Falue0added (arm ;usiness.
16 trategic management involves deciding -hat is important for the long0range
success of your business and focusing on it.
26 trategic management as+s/ H'o- should # position my business to meet
management and business goalsLI
36 & business strategy is a series of business decisions that lead to achieving a
business goal.
46 trategic management involves the Hbig pictureI of your business.
56 trategic management involves planning/ analy!ing and implementing a business
strategy.
"6 trategic management is most effective if you can step bac+ far enough and say
Hall things are possible.I
%6 The essence of strategic management is matching business resources to mar+et
opportunities.
,6 trategic management involves see+ing and identifying opportunities and threats
in the mar+et and industry and the outside -orld in general.
96 trategic management is based on the premise that Hall businesses are not the
same.I
1:6 trategic management involves assessing the strengths and -ea+nesses of your
business.
116 7hen assessing strengths and -ea+nesses/ personal s+ills and abilities are li+ely
to be more important than business assets.
126 trategic management involves loo+ing into the future rather than d-elling on
the past.
136 trategic management is proactive rather than reactive.
146 trategic management involves anticipating change and ta+ing advantage of it.
156 trategic thin+ing involves assessing ho- decisions made today -ill affect my
business in the future.
1"6 trategic management is more of a state0of mind than a rigid process.
1%6 & military connotation of strategic management is Hit hasnMt -on every -ar/ but
it has avoided a lot of ambushes.I
1,6 trategic management is most useful for businesses -ith uni<ue or differentiated
products for niche/ specialty or differentiated product
*ar+ets.
196 trategic planning comes before business planning. trategic planning is used to
identify and assess alternative business strategies. ;usiness planning is used to
implement a business strategy.
2:6 trategic planning is more -ords and less numbers than business planning.
216 & strategic plan is a HlivingI document that changes as your goals and resources
evolve.
Strategic management
%lobal Strategic Management
During the last half of the t-entieth century/ many barriers to international trade fell
and a -ave of firms began pursuing global strategies to gain a competitive
advantage. 'o-ever/ some industries benefit more from globali!ation than do
others/ and some nations have a comparative advantage over other nations in certain
industries. To create a successful global strategy/ managers first must understand the
nature of global industries and the dynamics of global competition.
So"rces of #ompetitive /dvantage from a %lobal Strateg
& -ell0designed global strategy can help a firm to gain a competitive advantage.
This advantage can arise from the follo-ing sources3
Efficienc
o )conomies of scale from access to more customers and mar+ets
o )2ploit another country.s resources 0 labor/ ra- materials
o )2tend the product life cycle 0 older products can be sold in lesser
developed countries
o 8perational fle2ibility 0 shift production as costs/ e2change rates/ etc.
change over time
Strategic
o (irst mover advantage and only provider of a product to a mar+et
o $ross subsidi!ation bet-een countries
o Transfer price
.is)
o Diversify macroeconomic ris+s 5business cycles not perfectly correlated
among countries6
o Diversify operational ris+s 5labor problems/ earth<ua+es/ -ars6
4earning
o ;roaden learning opportunities due to diversity of operating
environments
.ep"tation
o $rossover customers bet-een mar+ets 0 reputation and brand
identification
umantra 4hoshal of #E)&D proposed a frame-or+ comprising three categories of
strategic ob1ectives and three sources of advantage that can be used to achieve them.
&ssembling these into a matri2 results in the follo-ing frame-or+3
Strategic
Objectives
Sources of Competitive Advantage
National ,ifferences Scale Economies Scope Economies
Efficienc in
Operations
)2ploit factor cost differences cale in each activity
haring investments
and costs
!le'ibilit
*ar+et or policy0induced
changes
;alancing scale -ith
strategic G operational ris+s
Portfolio
diversification
Innovation and ocietal differences in )2perience 0 cost reduction hared learning across
4earning management and organi!ation and innovation activities
The Nat"re of #ompetitive /dvantage in %lobal Ind"stries
& global industry can be defined as3
&n industry in -hich firms must compete in all -orld mar+ets of that product
in order to survive.
&n industry in -hich a firm.s competitive advantage depends on economies of
scale and economies of scope gained across mar+ets.
ome industries are more suited for globali!ation than are others. The follo-ing
drivers determine an industry.s globali!ation potential.
05 #ost ,rivers
o Bocation of strategic resources
o Differences in country costs
o Potential for economies of scale 5production/ RGD/ etc.6 (lat
e2perience curves in an industry inhibits globali!ation. 8ne reason that
the facsimile industry had more global potential than the furniture
industry is that for fa2 machines/ the production costs drop 3:D04:D
-ith each doubling of volumeA the curve is much flatter for the furniture
industry and many service industries. #ndustries for -hich the larger
e2penses are in RGD/ such as the aircraft industry/ e2hibit more
economies of scale than those industries for -hich the larger e2penses
are rent and labor/ such as the dry cleaning industry. #ndustries in -hich
costs drop by at least 2:D for each doubling of volume tend to be good
candidates for globali!ation.
o Transportation costs 5value>bul+ or value>-eight ratio6 NO Diamonds
and semiconductors are more global than ice.
15 #"stomer ,rivers
o $ommon customer needs favor globali!ation. (or e2ample/ the
facsimile industry.s customers have more homogeneous needs than
those of the furniture industry/ -hose needs are defined by local tastes/
culture/ etc.
o 4lobal customers3 if a firm.s customers are other global businesses/
globali!ation may be re<uired to reach these customers in all their
mar+ets. (urthermore/ global customers often re<uire globally
standardi!ed products.
o 4lobal channels re<uire a globally coordinated mar+eting program.
trong established local distribution channels inhibits globali!ation.
o Transferable mar+eting3 -hether mar+eting elements such as brand
names and advertising re<uire little local adaptation. 7orld brands -ith
non0dictionary names may be developed in order to benefit from a
single global advertising campaign.
25 #ompetitive ,rivers
o 4lobal competitors3 The e2istence of many global competitors indicates
that an industry is ripe for globali!ation. 4lobal competitors -ill have a
cost advantage over local competitors.
o 7hen competitors begin leveraging their global positions through
cross0subsidi!ation/ an industry is ripe for globali!ation.
35 %overnment ,rivers
o Trade policies
o Technical standards
o Regulations
The furniture industry is an e2ample of an industry that did not lend itself to
globali!ation before the 19":.s. ;ecause furniture has a high bul+ compared to its
value/ and because furniture is easily damaged in shipping/ transport costs
traditionally -ere high. 4overnment trade barriers also -ere unfavorable. The
-edish furniture company #?)& pioneered a move to-ards globali!ation in the
furniture industry. #?)&.s furniture -as unassembled and therefore could be shipped
more economically. #?)& also lo-ered costs by involving the customer in the value
chainA the customer carried the furniture home and assembled it himself. #?)& also
had a frugal culture that gave it cost advantages. #?)& successfully e2panded in
)urope since customers in different countries -ere -illing to purchase similar
designs. 'o-ever/ after successfully e2panding to several countries/ #?)& ran into
difficulties in the =.. mar+et for several reasons3
Different tastes in furniture and a re<uirement for more customi!ed furniture.
Difficult to transfer #?)&.s frugal culture to the =..
The -edish ?rona increased in value/ increasing the cost of furniture made
in -eden and sold in the =..
toc+0outs due to the one to t-o month shipping time from )urope
*ore competition in the =.. than in )urope
#o"ntr #omparative /dvantages
#ompetitive advantage is a firm.s ability to transform inputs into goods and services
at a ma2imum profit on a sustained basis/ better than competitors. #omparative
advantage resides in the factor endo-ments and created endo-ments of particular
regions. (actor endo-ments include land/ natural resources/ labor/ and the si!e of the
local population.
#n the 192:.s/ -edish economists )li 'ec+sher and ;ertil 8hlin developed the
factor0proportions theory/ according to -hich a country en1oys a comparative
advantage in those goods that ma+e intensive use of factors that the country has in
relative abundance.
*ichael ). Porter argued that a nation can create its o-n endo-ments to gain a
comparative advantage. $reated endo-ments include s+illed labor/ the technology
and +no-ledge base/ government support/ and culture. Porter.s Diamond of Eational
&dvantage is a frame-or+ that illustrates the determinants of national advantage.
This diamond represents the national playing field that countries establish for their
industries.
Tpes of International Strateg: M"lti-domestic vs5 %lobal
ulti-domestic !trategy
Product customi!ed for each mar+et
Decentrali!ed control 0 local decision ma+ing
)ffective -hen large differences e2ist bet-een countries
&dvantages3 product differentiation/ local responsiveness/ minimi!ed political
ris+/ minimi!ed e2change rate ris+
"lobal !trategy
Product is the same in all countries.
$entrali!ed control 0 little decision0ma+ing authority on the local level
)ffective -hen differences bet-een countries are small
&dvantages3 cost/ coordinated activities/ faster product development
& fully multi0local value chain -ill have every function from RGD to distribution
and service performed entirely at the local level in each country. &t the other
e2treme/ a fully global value chain -ill source each activity in a different country.
Philips is a good e2ample of a company that follo-ed a multidomestic strategy. This
strategy resulted in3
#nnovation from local RGD
)ntrepreneurial spirit
Products tailored to individual countries
'igh <uality due to bac+-ard integration
The multi0domestic strategy also presented Philips -ith many challenges3
'igh costs due to tailored products and duplication across countries
The innovation from the local RGD groups resulted in products that -ere
RGD driven instead of mar+et driven.
Decentrali!ed control meant that national buy0in -as re<uired before
introducing a product 0 time to mar+et -as slo-.
*atsushita is a good e2ample of a company that follo-ed a global strategy. This
strategy resulted in3
trong global distribution net-or+
$ompany0-ide mission statement that -as follo-ed closely
(inancial control
*ore applied RGD
&bility to get to mar+et <uic+ly and force standards since individual country
buy0in -as not necessary.
The global strategy presented *atsushita -ith the follo-ing challenges3
Problem of strong yen
Too much dependency on one product 0 the F$R
Boss of non0&sian employees because of glass ceilings
& third strategy/ -hich -as appropriate to 7hirlpool is one of mass customi!ation/
discussed belo-.
%lobal #ost Str"ct"re /nalsis
#n 19,"/ 7hirlpool $orporation -as considering e2panding into )urope by
ac<uiring Philips. *a1or Domestic &ppliance Division. (rom the frame-or+ of
customers/ costs/ competitors/ and government/ there -ere several pros and cons to
this proposed strategy.
Pros
#nternal components of the appliances could be the same/ offering economies
of scale.
The cost to customi!e the outer structure of the appliances -as relatively lo-.
The appliance industry -as mature -ith lo- gro-th. The ac<uisition -ould
offer an avenue to continue gro-ing.
Cons
(ragmented distribution net-or+ in )urope.
Different consumer needs and preferences. (or e2ample/ in )urope
refrigerators tend to be smaller than in the =../ have only one outside door/
and have standard si!es so they can be built into the +itchen cabinet. #n @apan/
refrigerators tend to have several doors in order to +eep different
compartments at different temperatures and to isolate odors. &lso/ because
houses are smaller in @apan/ consumers desire <uieter appliances.
7hirlpool already -as the dominant player in a fragmented industry.
ince Philip.s had a relatively small mar+et share in the )uropean appliance mar+et/
one must analy!e the cost structure to determine if the ac<uisition -ould offer
7hirlpool a competitive advantage. 7ith the ac<uisition/ 7hirlpool -ould be able
to cut costs on ra- materials/ depreciation and maintenance/ RGD/ and general and
administrative costs. These costs represented 53D of 7hirlpool.s cost structure.
$ompared to most other industries/ this percentage of costs that could benefit from
economies of scale is <uite large. #t -ould be reasonable to e2pect a 1:D reduction
in these costs/ an amount that -ould decrease overall cost by 5.3D/ doubling profits.
uch potential 1ustifies the ris+ of increasing the comple2ity of the organi!ation.
;ecause of the different preferences of consumers in different mar+ets/ a purely
global strategy -ith standard products -as not appropriate. 7hirlpool -ould have to
adapt its products to local mar+ets/ but maintain some global integration in order to
reali!e cost benefits. This strategy is +no-n as Cmass customi!ation.C
7hirlpool ac<uired Philips. *a1or Domestic &ppliance Division/ 4%D in 19,9 and
the remainder in 1991. #nitially/ margins doubled as predicted. 'o-ever/ local
competitors responded by better tailoring their products and cutting costsA
7hirlpool.s profits then began to decline. 7hirlpool applied the same strategy to
&sia/ but 4) -as outperforming 7hirlpool there by tailoring its products as part of
its multi0domestic strategy.
%lobali6ing Service $"sinesses
ervice industries tend to have a flat e2perience curve and lo-er economies of scale.
'o-ever/ some economy of scale may be gained through +no-ledge sharing/ -hich
enables the cost of developing the +no-ledge over a larger base. &lso/ in some
industries such as professional services/ capacity utili!ation can better be managed
as the scope of operations increases. 8n the customer side/ because a service firm.s
customers may themselves be operating internationally/ global e2pansion may be a
necessity. ?no-ledge gained in foreign mar+ets can used to better service
customers. (inally/ being global also enhances a firm.s reputation/ -hich is critical in
service businesses.
'igh <uality service products often depend on the service firm.s culture/ and
maintaining a consistent culture -hen e2panding globally is a challenge.
& good e2ample of a service firm that e2perienced global e2pansion challenges is
the management consulting firm ;ain G $ompany/ #nc. #n consulting/ a firm.s most
important strategic asset is its reputation/ so a consistent firm culture is very
important. ;ain faced the follo-ing challenges/ -hich depend on the firm.s strategy
and -hich affect the ability to maintain a consistent culture3
$oordinating across offices and sharing +no-ledge
7hether to hire locals or international staff
'o- to compensate
Modes of !oreign Mar)et Entr
&n important part of a global strategy is the method that the firm -ill use to enter
the foreign mar+et. There are four possible modes of foreign mar+et entry3
)2porting
Bicensing 5includes franchising6
@oint Fenture
(oreign Direct #nvestment
These options vary in their degree of speed/ control/ and ris+/ as -ell as the re<uired
level of investment and mar+et +no-ledge. The entry mode selection can have a
significant impact on the firm.s foreign mar+et success.
Iss"es in Emerging Economies
#n emerging economies/ capital mar+ets are relatively inefficient. There is a lac+ of
information/ the cost of capital is high/ and venture capital is virtually none2istent.
;ecause of the scarcity of high0<uality educational institutions/ the labor mar+ets
lac+ -ell trained people and companies often must fill the void. ;ecause of lac+ing
communications infrastructure/ building a brand name is difficult but good brands
are highly valued because of lo-er product <uality of the alternatives. Relationships
-ith government officials often are necessary to succeed/ and contracts may not be
-ell enforced by the legal system.
7hen a large government monopoly 5e.g. a state0o-ned oil company6 is privati!ed/
there often is political pressure in the country against allo-ing the firm to be
ac<uired by a foreign entity. 7hereas a very large =.. oil company may prefer
ac<uisitions/ because of the anti0foreign sentiment 1oint ventures often are more
appropriate for outside companies interested in ne-ly privati!ed emerging economy
firms.
7no&ledge Management in %lobal !irms
There is much value in transferring +no-ledge and best practices bet-een parts of a
global firm. 'o-ever/ many barriers prevent +no-ledge from being transferred3
;arriers attributable to the +no-ledge source
o lac+ of motivation
o lac+ of credibility
;arriers attributable to the +no-ledge itself 0 ambiguity and comple2ity
;arriers attributable to the +no-ledge recipient
o lac+ of motivation 5not invented here syndrome6
o lac+ of absorptive capacity 0 need prere<uisite +no-ledge to advance to
ne2t level
;arriers attributable to the recipient.s e2isting process 0 process rigidity
;arriers attributable to the recipient.s e2ternal environment and constraints
(urthermore/ even -hen the transfer is successful/ there often is a temporary drop in
performance before the improvements are seen. During this period/ there is danger
of losing faith in the ne- -ay of doing things.
To facilitate +no-ledge transfer a firm can3
#mplement processes to systematically identify valuable +no-ledge and best
practices.
$reate incentives to motivate both the +no-ledge source and recipient.
Develop absorptive capacity in the recipient 0 cumulative +no-ledge
Develop strong technical and social net-or+s bet-een parts of the firm that
can share +no-ledge.
#o"ntr Management
$ountry managers must have the follo-ing +no-ledge3
?no-ledge of strategic management
(irm0specific +no-ledge
$ountry0specific +no-ledge
?no-ledge of the global environment
$ountry organi!ations can assume the role of implementor/ contributor/ strategic
leader/ or blac+ hole/ depending on the combination of importance of the local
mar+et and local resources.
Strategic Importance
of Local Market
Level of Local Resources & Capabilities
4o& 8igh
4o& #mplementor $ontributor
8igh ;lac+ 'ole trategic Beader
The least favorable of these roles is the blac+ hole/ -hich is a subsidiary in a
strategically important mar+et that has fe- capabilities. & firm can find itself in this
situation because of company traditions/ ignorance of local conditions/ unfavorable
entry conditions/ misreading the mar+et/ e2cessive reliance on e2patriates/ and poor
e2ternal relations. To get out of a blac+ hole a firm can form alliances/ focus its
investments/ implement a local RGD organi!ation/ or -hen all else fails/ e2it the
country.
$ountry managers assume different roles 5The #ew Country anagers/ @ohn &.
Puelch/ Professor of ;usiness &dministration/ 'arvard ;usiness chool6.
#nternational tructure3 $ountry manager is a trader -ho implements policy.
*ultinational tructure3 $ountry manager plays the role of a functional
manager -ith profit and loss responsibilities.
Transnational tructure3 $ountry manager acts as a cabinet member 5team
player6 since management control systems are standardi!ed and decision0
ma+ing po-er is shifted to the region manager. The country manager develops
the lead mar+et in his country and transfers the +no-ledge gained to other
similar mar+ets.
4lobal tructure3 $ountry manager acts as an ambassador and administrator.
#n a global firm there usually are business directors -ho oversee mar+eting
and sales. The role of the country manager becomes one of a statesman. This
person usually is a local -ith good government contacts.
Hierarchical Levels of Strategy
trategy can be formulated on three different levels3
corporate level
business unit level
functional or departmental level.
7hile strategy may be about competing and surviving as a firm/ one can argue that
products/ not corporations compete/ and products are developed by business units.
The role of the corporation then is to manage its business units and products so that
each is competitive and so that each contributes to corporate purposes.
$onsider Te2tron/ #nc./ a successful conglomerate corporation that pursues profits
through a range of businesses in unrelated industries. Te2tron has four core business
segments3
&ircraft 0 32D of revenues
&utomotive 0 25D of revenues
#ndustrial 0 39D of revenues
(inance 0 4D of revenues.
7hile the corporation must manage its portfolio of businesses to gro- and survive/
the success of a diversified firm depends upon its ability to manage each of its
product lines. 7hile there is no single competitor to Te2tron/ -e can tal+ about the
competitors and strategy of each of its business units. #n the finance business
segment/ for e2ample/ the chief rivals are ma1or ban+s providing commercial
financing. *any managers consider the business level to be the proper focus for
strategic planning.
#orporate 4evel Strateg
$orporate level strategy fundamentally is concerned -ith the selection of businesses
in -hich the company should compete and -ith the development and coordination
of that portfolio of businesses.
$orporate level strategy is concerned -ith3
Reach 0 defining the issues that are corporate responsibilitiesA these might
include identifying the overall goals of the corporation/ the types of businesses
in -hich the corporation should be involved/ and the -ay in -hich businesses
-ill be integrated and managed.
$ompetitive $ontact 0 defining -here in the corporation competition is to be
locali!ed. Ta+e the case of insurance3 #n the mid0199:.s/ &etna as a
corporation -as clearly identified -ith its commercial and property casualty
insurance products. The conglomerate Te2tron -as not. (or Te2tron/
competition in the insurance mar+ets too+ place specifically at the business
unit level/ through its subsidiary/ Paul Revere. 5Te2tron divested itself of The
Paul Revere $orporation in 199%.6
*anaging &ctivities and ;usiness #nterrelationships 0 $orporate strategy
see+s to develop synergies by sharing and coordinating staff and other
resources across business units/ investing financial resources across business
units/ and using business units to complement other corporate business
activities. #gor &nsoff introduced the concept of synergy to corporate strategy.
*anagement Practices 0 $orporations decide ho- business units are to be
governed3 through direct corporate intervention 5centrali!ation6 or through
more or less autonomous government 5decentrali!ation6 that relies on
persuasion and re-ards.
$orporations are responsible for creating value through their businesses. They do so
by managing their portfolio of businesses/ ensuring that the businesses are successful
over the long0term/ developing business units/ and sometimes ensuring that each
business is compatible -ith others in the portfolio.
$"siness 9nit 4evel Strateg
& strategic business unit may be a division/ product line/ or other profit center that
can be planned independently from the other business units of the firm.
&t the business unit level/ the strategic issues are less about the coordination of
operating units and more about developing and sustaining a competitive advantage
for the goods and services that are produced. &t the business level/ the strategy
formulation phase deals -ith3
positioning the business against rivals
anticipating changes in demand and technologies and ad1usting the strategy to
accommodate them
influencing the nature of competition through strategic actions such as vertical
integration and through political actions such as lobbying.
*ichael Porter identified three generic strategies 5cost leadership/ differentiation/
and focus6 that can be implemented at the business unit level to create a competitive
advantage and defend against the adverse effects of the five forces.
!"nctional 4evel Strateg
The functional level of the organi!ation is the level of the operating divisions and
departments. The strategic issues at the functional level are related to business
processes and the value chain. (unctional level strategies in mar+eting/ finance/
operations/ human resources/ and RGD involve the development and coordination of
resources through -hich business unit level strategies can be e2ecuted efficiently
and effectively.
(unctional units of an organi!ation are involved in higher level strategies by
providing input into the business unit level and corporate level strategy/ such as
providing information on resources and capabilities on -hich the higher level
strategies can be based. 8nce the higher0level strategy is developed/ the functional
units translate it into discrete action0plans that each department or division must
accomplish for the strategy to succeed.
8ori6ontal Integration
The ac<uisition of additional business activities at the same level of the value chain
is referred to as hori6ontal integration. This form of e2pansion contrasts -ith
vertical integration by -hich the firm e2pands into upstream or do-nstream
activities. 'ori!ontal gro-th can be achieved by internal e2pansion or by e2ternal
e2pansion through mergers and ac<uisitions of firms offering similar products and
services. & firm may diversify by gro-ing hori!ontally into unrelated businesses.
ome e2amples of hori!ontal integration include3
The tandard 8il $ompany.s ac<uisition of 4: refineries.
&n automobile manufacturer.s ac<uisition of a sport utility vehicle
manufacturer.
& media company.s o-nership of radio/ television/ ne-spapers/ boo+s/ and
maga!ines.
/dvantages of 8ori6ontal Integration
The follo-ing are some benefits sought by firms that hori!ontally integrate3
)conomies of scale 0 acheived by selling more of the same product/ for
e2ample/ by geographic e2pansion.
)conomies of scope 0 achieved by sharing resources common to different
products. $ommonly referred to as Csynergies.C
#ncreased mar+et po-er 5over suppliers and do-nstream channel members6
Reduction in the cost of international trade by operating factories in foreign
mar+ets.
ometimes benefits can be gained through customer perceptions of lin+ages bet-een
products. (or e2ample/ in some cases synergy can be achieved by using the same
brand name to promote multiple products. 'o-ever/ such e2tensions can have
dra-bac+s/ as pointed out by &l Ries and @ac+ Trout in their mar+eting classic/
Positioning.
Pitfalls of 8ori6ontal Integration
'ori!ontal integration by ac<uisition of a competitor -ill increase a firm.s mar+et
share. 'o-ever/ if the industry concentration increases significantly then anti0trust
issues may arise.
&side from legal issues/ another concern is -hether the anticipated economic gains
-ill materiali!e. ;efore e2panding the scope of the firm through hori!ontal
integration/ management should be sure that the imagined benefits are real. *any
blunders have been made by firms that broadened their hori!ontal scope to achieve
synergies that did not e2ist/ for e2ample/ computer hard-are manufacturers -ho
entered the soft-are business on the premise that there -ere synergies bet-een
hard-are and soft-are. 'o-ever/ a connection bet-een t-o products does not
necessarily imply reali!able economies of scope.
(inally/ even -hen the potential benefits of hori!ontal integration e2ist/ they do not
materiali!e spontaneously. There must be an e2plicit hori!ontal strategy in place.
uch strategies generally do not arise from the bottom0up/ but rather/ must be
formulated by corporate management.
PEST /nalsis
& scan of the e2ternal macro0environment in -hich the firm operates can be
e2pressed in terms of the follo-ing factors3
Political
Economic
Social
Technological
The acronym PEST 5or sometimes rearranged as CT)PC6 is used to describe a
frame-or+ for the analysis of these macro environmental factors. & P)T analysis
fits into an overall environmental scan as sho-n in the follo-ing diagram3
Environmental Scan
:
;
E'ternal /nalsis
Internal /nalsis
: ;

Macro environment
Microenvironment


<
P5E5S5T5



Political !actors
Political factors include government regulations and legal issues and define both
formal and informal rules under -hich the firm must operate. ome e2amples
include3
ta2 policy
employment la-s
environmental regulations
trade restrictions and tariffs
political stability
Economic !actors
)conomic factors affect the purchasing po-er of potential customers and the firm.s
cost of capital. The follo-ing are e2amples of factors in the macroeconomy3
economic gro-th
interest rates
e2change rates
inflation rate
Social !actors
ocial factors include the demographic and cultural aspects of the e2ternal macro
environment. These factors affect customer needs and the si!e of potential mar+ets.
ome social factors include3
health consciousness
population gro-th rate
age distribution
career attitudes
emphasis on safety
Technological !actors
Technological factors can lo-er barriers to entry/ reduce minimum efficient
production levels/ and influence outsourcing decisions. ome technological factors
include3
RGD activity
automation
technology incentives
rate of technological change
Porter=s !ive !orces
/ MO,E4 !O. IN,9ST.> /N/4>SIS
The model of pure competition implies that ris+0ad1usted rates of return should be
constant across firms and industries. 'o-ever/ numerous economic studies have
affirmed that different industries can sustain different levels of profitabilityA part of
this difference is e2plained by industry structure.
*ichael Porter provided a frame-or+ that models an industry as being influenced by
five forces. The strategic business manager see+ing to develop an edge over rival
firms can use this model to better understand the industry conte2t in -hich the firm
operates.
,iagram of Porter=s ? !orces

S9PP4IE. PO@E.
upplier concentration
#mportance of volume to supplier
Differentiation of inputs
#mpact of inputs on cost or differentiation
-itching costs of firms in the industry
Presence of substitute inputs
Threat of for-ard integration
$ost relative to total purchases in industry

$/..IE.S
TO ENT.>
&bsolute cost advantages
Proprietary learning curve
&ccess to inputs
4overnment policy
)conomies of scale
$apital re<uirements
;rand identity
-itching costs
&ccess to distribution
)2pected retaliation
Proprietary products
T8.E/T O!
S9$STIT9TES
0-itching costs
0;uyer inclination to
substitute
0Price0performance
trade0off of substitutes

$9>E. PO@E.
;argaining leverage
;uyer volume
;uyer information
;rand identity
Price sensitivity
Threat of bac+-ard integration
Product differentiation
;uyer concentration vs. industry
ubstitutes available
;uyers. incentives
,E%.EE O! .I-/4.>
0)2it barriers
0#ndustry concentration
0(i2ed costs>Falue added
0#ndustry gro-th
0#ntermittent overcapacity
0Product differences
0-itching costs
0;rand identity
0Diversity of rivals
0$orporate sta+es
I5 .ivalr
#n the traditional economic model/ competition among rival firms drives profits to
!ero. ;ut competition is not perfect and firms are not unsophisticated passive price
ta+ers. Rather/ firms strive for a competitive advantage over their rivals. The
intensity of rivalry among firms varies across industries/ and strategic analysts are
interested in these differences.
)conomists measure rivalry by indicators of industry concentration. The
$oncentration Ratio 5$R6 is one such measure. The ;ureau of $ensus periodically
reports the $R for ma1or tandard #ndustrial $lassifications 5#$.s6. The $R
indicates the percent of mar+et share held by the four largest firms 5$R.s for the
largest ,/ 25/ and 5: firms in an industry also are available6. & high concentration
ratio indicates that a high concentration of mar+et share is held by the largest firms 0
the industry is concentrated. 7ith only a fe- firms holding a large mar+et share/ the
competitive landscape is less competitive 5closer to a monopoly6. & lo-
concentration ratio indicates that the industry is characteri!ed by many rivals/ none
of -hich has a significant mar+et share. These fragmented mar+ets are said to be
competitive. The concentration ratio is not the only available measureA the trend is to
define industries in terms that convey more information than distribution of mar+et
share.
#f rivalry among firms in an industry is lo-/ the industry is considered to be
disciplined. This discipline may result from the industry.s history of competition/ the
role of a leading firm/ or informal compliance -ith a generally understood code of
conduct. )2plicit collusion generally is illegal and not an optionA in lo-0rivalry
industries competitive moves must be constrained informally. 'o-ever/ a maveric+
firm see+ing a competitive advantage can displace the other-ise disciplined mar+et.
7hen a rival acts in a -ay that elicits a counter0response by other firms/ rivalry
intensifies. The intensity of rivalry commonly is referred to as being cutthroat/
intense/ moderate/ or -ea+/ based on the firms. aggressiveness in attempting to gain
an advantage.
#n pursuing an advantage over its rivals/ a firm can choose from several competitive
moves3
$hanging prices 0 raising or lo-ering prices to gain a temporary advantage.
#mproving product differentiation 0 improving features/ implementing
innovations in the manufacturing process and in the product itself.
$reatively using channels of distribution 0 using vertical integration or using a
distribution channel that is novel to the industry. (or e2ample/ -ith high0end
1e-elry stores reluctant to carry its -atches/ Time2 moved into drugstores and
other non0traditional outlets and cornered the lo- to mid0price -atch mar+et.
)2ploiting relationships -ith suppliers 0 for e2ample/ from the 195:.s to the
19%:.s ears/ Roebuc+ and $o. dominated the retail household appliance
mar+et. ears set high <uality standards and re<uired suppliers to meet its
demands for product specifications and price.
The intensity of rivalry is influenced by the follo-ing industry characteristics3
1. / larger n"mber of firms increases rivalry because more firms must compete
for the same customers and resources. The rivalry intensifies if the firms have
similar mar+et share/ leading to a struggle for mar+et leadership.
2. Slo& mar)et gro&th causes firms to fight for mar+et share. #n a gro-ing
mar+et/ firms are able to improve revenues simply because of the e2panding
mar+et.
3. 8igh fi'ed costs result in an economy of scale effect that increases rivalry.
7hen total costs are mostly fi2ed costs/ the firm must produce near capacity
to attain the lo-est unit costs. ince the firm must sell this large <uantity of
product/ high levels of production lead to a fight for mar+et share and results
in increased rivalry.
4. 8igh storage costs or highl perishable prod"cts cause a producer to sell
goods as soon as possible. #f other producers are attempting to unload at the
same time/ competition for customers intensifies.
5. 4o& s&itching costs increases rivalry. 7hen a customer can freely s-itch
from one product to another there is a greater struggle to capture customers.
". 4o& levels of prod"ct differentiation is associated -ith higher levels of
rivalry. ;rand identification/ on the other hand/ tends to constrain rivalry.
%. Strategic sta)es are high -hen a firm is losing mar+et position or has
potential for great gains. This intensifies rivalry.
,. 8igh e'it barriers place a high cost on abandoning the product. The firm
must compete. 'igh e2it barriers cause a firm to remain in an industry/ even
-hen the venture is not profitable. & common e2it barrier is asset specificity.
7hen the plant and e<uipment re<uired for manufacturing a product is highly
speciali!ed/ these assets cannot easily be sold to other buyers in another
industry. Bitton #ndustries. ac<uisition of #ngalls hipbuilding facilities
illustrates this concept. Bitton -as successful in the 19":.s -ith its contracts to
build Eavy ships. ;ut -hen the Fietnam -ar ended/ defense spending
declined and Bitton sa- a sudden decline in its earnings. &s the firm
restructured/ divesting from the shipbuilding plant -as not feasible since such
a large and highly speciali!ed investment could not be sold easily/ and Bitton
-as forced to stay in a declining shipbuilding mar+et.
9. / diversit of rivals -ith different cultures/ histories/ and philosophies ma+e
an industry unstable. There is greater possibility for maveric+s and for
mis1udging rival.s moves. Rivalry is volatile and can be intense. The hospital
industry/ for e2ample/ is populated by hospitals that historically are
community or charitable institutions/ by hospitals that are associated -ith
religious organi!ations or universities/ and by hospitals that are for0profit
enterprises. This mi2 of philosophies about mission has lead occasionally to
fierce local struggles by hospitals over -ho -ill get e2pensive diagnostic and
therapeutic services. &t other times/ local hospitals are highly cooperative
-ith one another on issues such as community disaster planning.
1:. Ind"str Sha)eo"t5 & gro-ing mar+et and the potential for high profits
induces ne- firms to enter a mar+et and incumbent firms to increase
production. & point is reached -here the industry becomes cro-ded -ith
competitors/ and demand cannot support the ne- entrants and the resulting
increased supply. The industry may become cro-ded if its gro-th rate slo-s
and the mar+et becomes saturated/ creating a situation of e2cess capacity -ith
too many goods chasing too fe- buyers. & sha+eout ensues/ -ith intense
competition/ price -ars/ and company failures.
;$4 founder ;ruce 'enderson generali!ed this observation as the Rule of
Three and (our3 a stable mar+et -ill not have more than three significant
competitors/ and the largest competitor -ill have no more than four times the
mar+et share of the smallest. #f this rule is true/ it implies that3
o #f there is a larger number of competitors/ a sha+eout is inevitable
o urviving rivals -ill have to gro- faster than the mar+et
o )ventual losers -ill have a negative cash flo- if they attempt to gro-
o &ll e2cept the t-o largest rivals -ill be losers
o The definition of -hat constitutes the Cmar+etC is strategically
important.
7hatever the merits of this rule for stable mar+ets/ it is clear that mar+et
stability and changes in supply and demand affect rivalry. $yclical demand
tends to create cutthroat competition. This is true in the disposable diaper
industry in -hich demand fluctuates -ith birth rates/ and in the greeting card
industry in -hich there are more predictable business cycles.
II5 Threat of S"bstit"tes
#n Porter.s model/ substitute products refer to products in other industries. To the
economist/ a threat of substitutes e2ists -hen a product.s demand is affected by the
price change of a substitute product. & product.s price elasticity is affected by
substitute products 0 as more substitutes become available/ the demand becomes
more elastic since customers have more alternatives. & close substitute product
constrains the ability of firms in an industry to raise prices.
The competition engendered by a Threat of ubstitute comes from products outside
the industry. The price of aluminum beverage cans is constrained by the price of
glass bottles/ steel cans/ and plastic containers. These containers are substitutes/ yet
they are not rivals in the aluminum can industry. To the manufacturer of automobile
tires/ tire retreads are a substitute. Today/ ne- tires are not so e2pensive that car
o-ners give much consideration to retreading old tires. ;ut in the truc+ing industry
ne- tires are e2pensive and tires must be replaced often. #n the truc+ tire mar+et/
retreading remains a viable substitute industry. #n the disposable diaper industry/
cloth diapers are a substitute and their prices constrain the price of disposables.
7hile the treat of substitutes typically impacts an industry through price
competition/ there can be other concerns in assessing the threat of substitutes.
$onsider the substitutability of different types of TF transmission3 local station
transmission to home TF antennas via the air-ays versus transmission via cable/
satellite/ and telephone lines. The ne- technologies available and the changing
structure of the entertainment media are contributing to competition among these
substitute means of connecting the home to entertainment. )2cept in remote areas it
is unli+ely that cable TF could compete -ith free TF from an aerial -ithout the
greater diversity of entertainment that it affords the customer.
III5 $"er Po&er
The po-er of buyers is the impact that customers have on a producing industry. #n
general/ -hen buyer po-er is strong/ the relationship to the producing industry is
near to -hat an economist terms a monopson 0 a mar+et in -hich there are many
suppliers and one buyer. =nder such mar+et conditions/ the buyer sets the price. #n
reality fe- pure monopsonies e2ist/ but fre<uently there is some asymmetry bet-een
a producing industry and buyers. The follo-ing tables outline some factors that
determine buyer po-er.
I-5 S"pplier Po&er
& producing industry re<uires ra- materials 0 labor/ components/ and other supplies.
This re<uirement leads to buyer0supplier relationships bet-een the industry and the
firms that provide it the ra- materials used to create products. uppliers/ if po-erful/
can e2ert an influence on the producing industry/ such as selling ra- materials at a
high price to capture some of the industry.s profits. The follo-ing tables outline
some factors that determine supplier po-er.
-5 $arriers to Entr : Threat of Entr
#t is not only incumbent rivals that pose a threat to firms in an industryA the
possibility that ne- firms may enter the industry also affects competition. #n theory/
any firm should be able to enter and e2it a mar+et/ and if free entry and e2it e2ists/
then profits al-ays should be nominal. #n reality/ ho-ever/ industries possess
characteristics that protect the high profit levels of firms in the mar+et and inhibit
additional rivals from entering the mar+et. These are barriers to entry.
;arriers to entry are more than the normal e<uilibrium ad1ustments that mar+ets
typically ma+e. (or e2ample/ -hen industry profits increase/ -e -ould e2pect
additional firms to enter the mar+et to ta+e advantage of the high profit levels/ over
time driving do-n profits for all firms in the industry. 7hen profits decrease/ -e
-ould e2pect some firms to e2it the mar+et thus restoring a mar+et e<uilibrium.
(alling prices/ or the e2pectation that future prices -ill fall/ deters rivals from
entering a mar+et. (irms also may be reluctant to enter mar+ets that are e2tremely
uncertain/ especially if entering involves e2pensive start0up costs. These are normal
accommodations to mar+et conditions. ;ut if firms individually 5collective action
-ould be illegal collusion6 +eep prices artificially lo- as a strategy to prevent
potential entrants from entering the mar+et/ such entr-deterring pricing
establishes a barrier.
;arriers to entry are uni<ue industry characteristics that define the industry. ;arriers
reduce the rate of entry of ne- firms/ thus maintaining a level of profits for those
already in the industry. (rom a strategic perspective/ barriers can be created or
e2ploited to enhance a firm.s competitive advantage. ;arriers to entry arise from
several sources3
1. %overnment creates barriers5 &lthough the principal role of the government
in a mar+et is to preserve competition through anti0trust actions/ government
also restricts competition through the granting of monopolies and through
regulation. #ndustries such as utilities are considered natural monopolies
because it has been more efficient to have one electric company provide
po-er to a locality than to permit many electric companies to compete in a
local mar+et. To restrain utilities from e2ploiting this advantage/ government
permits a monopoly/ but regulates the industry. #llustrative of this +ind of
barrier to entry is the local cable company. The franchise to a cable provider
may be granted by competitive bidding/ but once the franchise is a-arded by a
community a monopoly is created. Bocal governments -ere not effective in
monitoring price gouging by cable operators/ so the federal government has
enacted legislation to revie- and restrict prices.
The regulatory authority of the government in restricting competition is
historically evident in the ban+ing industry. =ntil the 19%:.s/ the mar+ets that
ban+s could enter -ere limited by state governments. &s a result/ most ban+s
-ere local commercial and retail ban+ing facilities. ;an+s competed through
strategies that emphasi!ed simple mar+eting devices such as a-arding toasters
to ne- customers for opening a chec+ing account. 7hen ban+s -ere
deregulated/ ban+s -ere permitted to cross state boundaries and e2pand their
mar+ets. Deregulation of ban+s intensified rivalry and created uncertainty for
ban+s as they attempted to maintain mar+et share. #n the late 19%:.s/ the
strategy of ban+s shifted from simple mar+eting tactics to mergers and
geographic e2pansion as rivals attempted to e2pand mar+ets.
2. Patents and proprietar )no&ledge serve to restrict entr into an
ind"str5 #deas and +no-ledge that provide competitive advantages are
treated as private property -hen patented/ preventing others from using the
+no-ledge and thus creating a barrier to entry. )d-in Band introduced the
Polaroid camera in 194% and held a monopoly in the instant photography
industry. #n 19%5/ ?oda+ attempted to enter the instant camera mar+et and
sold a comparable camera. Polaroid sued for patent infringement and -on/
+eeping ?oda+ out of the instant camera industry.
3. /sset specificit inhibits entr into an ind"str5 &sset specificity is the
e2tent to -hich the firm.s assets can be utili!ed to produce a different product.
7hen an industry re<uires highly speciali!ed technology or plants and
e<uipment/ potential entrants are reluctant to commit to ac<uiring speciali!ed
assets that cannot be sold or converted into other uses if the venture fails.
&sset specificity provides a barrier to entry for t-o reasons3 (irst/ -hen firms
already hold speciali!ed assets they fiercely resist efforts by others from
ta+ing their mar+et share. Ee- entrants can anticipate aggressive rivalry. (or
e2ample/ ?oda+ had much capital invested in its photographic e<uipment
business and aggressively resisted efforts by (u1i to intrude in its mar+et.
These assets are both large and industry specific. The second reason is that
potential entrants are reluctant to ma+e investments in highly speciali!ed
assets.
4. Organi6ational *Internal+ Economies of Scale5 The most cost efficient level
of production is termed Minim"m Efficient Scale 5*)6. This is the point at
-hich unit costs for production are at minimum 0 i.e./ the most cost efficient
level of production. #f *) for firms in an industry is +no-n/ then -e can
determine the amount of mar+et share necessary for lo- cost entry or cost
parity -ith rivals. (or e2ample/ in long distance communications roughly 1:D
of the mar+et is necessary for *). #f sales for a long distance operator fail to
reach 1:D of the mar+et/ the firm is not competitive.
The e2istence of such an economy of scale creates a barrier to entry. The
greater the difference bet-een industry *) and entry unit costs/ the greater
the barrier to entry. o industries -ith high *) deter entry of small/ start0up
businesses. To operate at less than *) there must be a consideration that
permits the firm to sell at a premium price 0 such as product differentiation or
local monopoly.
;arriers to e2it -or+ similarly to barriers to entry. )2it barriers limit the ability of a
firm to leave the mar+et and can e2acerbate rivalry 0 unable to leave the industry/ a
firm must compete. ome of an industry.s entry and e2it barriers can be summari!ed
as follo-s3
Eas to Enter if there is:
$ommon technology
Bittle brand franchise
,iffic"lt to Enter if there is:
Patented or proprietary +no-0ho-
Difficulty in brand s-itching
&ccess to distribution channels
Bo- scale threshold
Restricted distribution channels
'igh scale threshold
Eas to E'it if there are:
alable assets
Bo- e2it costs
#ndependent businesses
,iffic"lt to E'it if there are:
peciali!ed assets
'igh e2it costs
#nterrelated businesses
,>N/MI# N/T9.E O! IN,9ST.> .I-/4.>
8ur descriptive and analytic models of industry tend to e2amine the industry at a
given state. The nature and fascination of business is that it is not static. 7hile -e
are prone to generali!e/ for e2ample/ list 4*/ (ord/ and $hrysler as the C;ig 3C and
assume their dominance/ -e also have seen the automobile industry change.
$urrently/ the entertainment and communications industries are in flu2. Phone
companies/ computer firms/ and entertainment are merging and forming strategic
alliances that re0map the information terrain. chumpeter and/ more recently/ Porter
have attempted to move the understanding of industry competition from a static
economic or industry organi!ation model to an emphasis on the interdependence of
forces as dynamic/ or punctuated e$uilibrium/ as Porter terms it.
#n chumpeter.s and Porter.s vie- the dynamism of mar+ets is driven by innovation.
7e can envision these forces at -or+ as -e e2amine the follo-ing changes3