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of “strategy” in the business literature. My personal favourite: “Strategy is … a firm’s theory about how to compete successfully” (by Jay B. Barney). - In Barney’s definition: - The term “theory” conveys a couple of concepts: - A firm does not know with absolute certainty, which is the best strategy. However, some alternatives are better than others. That is, some are more likely to work than others are. - Developing a strategy is a creative act. - The term “compete” is also a critical part of the definition. A firm must make its choices, taking into account the fact that it is in a competitive environment. Consequently, strategy goes beyond simply minimizing your costs or optimizing quality. If your rivals do the same thing, then you have no competitive advantage, and you therefore have no ability to make an attractive profit. - In our strategy course, we focus on creating value and capturing value. Creating Value - A firm creates value by producing a product for which customers are willing to pay more than the full cost of delivering the product to that customer. - Thus, an important question in strategy is how to generate a healthy gap between the amount customers are willing to pay, and costs. - Since customers differ in their preferences, part of this process involves selecting target customers and tailoring the product for those customers. - Strategic choices normally involve a trade-off between willingness-to-pay and costs. You want to adopt activities that raise willingness-to-pay more than they raise costs (for your target customers), and you want to scale back activities if the cost savings are larger than the loss of willingness-to-pay (for your target customers). Capturing Value - Capturing value involves securing profits from the value that the company creates. If a firm creates value but doesn’t capture it, then the benefits from the value creation all go to customers and/or suppliers, and not the firm itself. - Our strategy course pays a lot of attention to capturing value, but in this course (international business) we will not focus on this concept.
By Don Wagner, UPEI, January 23, 2007.
tariffs and trade barriers .When going international to save costs.economies of scale . .g.The strategy decision this course addresses is the choice on where to locate each activity of the firm.reputation 2 . The choice on how you adapt the product should be driven by the cost versus willingness-to-pay trade-off.Location Choice as a Part of Strategy Reasons for Going International .costs of supplies (raw materials. real estate. energy. The key factors in making those choices are the effects on cost. all of the above issues still apply.Do you know of any firms that have gone international to reduce risks? The Cost versus Willingness-to-Pay Trade-off . . a critical issue is the degree to which you adapt the product for the foreign market. This is because each activity within the firm interacts with other activities. etc.product adaptations . 1. . to expand sales by accessing new markets. For example.When a firm goes international to cut risks (e. to reduce risk.Key cost concerns include: .transportation costs .There are two primary reasons for going international. you normally want to pick a place that has a cost advantage.communications with customers .Name some firms that have gone international to access new markets. the R&D group interacts with the marketing group to know what the market’s needs are.Name some firms that have gone international to cut costs. 2. . and a third less common reason. and/or 3. and there is a cost to interacting at a distance. . exchange risk.) .communication/coordination costs within the firm . Interaction is less effective and less efficient if these groups are physically in different places.Key willingness-to-pay concerns include: . to reduce costs. However. and the marketing group wants to know what is coming down the pipeline from R&D. and the effects on customers’ willingness-to-pay.labour costs .responsiveness to customers’ orders and service requirements . . political risk). local services. a firm should not necessarily carry out each activity precisely where it can be done cheapest. Have they adapted their products? .When going international to access new markets.
The main categories of strategies are briefly described below.high internal communication costs .Broad Categories of Strategies There are three broad strategies – “exporting”. it becomes easier to build an easily-understood organization structure and to draw understandable lines of accountability.high transportation costs. When a firm chooses to place one activity in a new location. - - Exporting Strategy Under this approach. Each subsidiary obtains its own inputs and provides all its own supporting services.Once the first activity is placed in a foreign location. The firm’s activities are replicated in each location. . each subsidiary is a self-sufficient entity.low transportation costs. An exporting strategy would normally be adopted by companies that exhibit some of the following traits: . Foreign markets are served by exporting. “multidomestic” and “global”.no substantial cost differences between countries Name some multidomestic companies. it is sometimes helpful to identify a general approach – for two reasons: . whether a firm selects a particular location for a particular activity depends quite heavily on whether the firm already has an international presence in that location. even in the long run . While the location decisions can be done on an activity-by-activity basis. since several of the other strategies involve exports too – albeit not all from the home country. several other activities may then become feasible there too. A multidomestic strategy would normally be adopted by companies that exhibit some of the following traits: .When the location choices follow a basic theme.low fixed costs . “branching” and “offshore outsourcing strategies. Thus. everything is done in one place – typically the home country.the home country is the major market. low border costs . Do those companies have the traits described above? - - Multidomestic Strategy In a pure multidomestic organization.the home country has a cost advantage Name some companies that follow an exporting strategy. Additional variations and hybrids of these three basic strategies include the “transnational”. Do those companies have the traits listed above? - - 3 . it becomes less costly to add a second activity to the same location.large fixed costs . In a sense “centralization” would be a better name for this strategy. high border costs .
In a sense.low transportation costs. low border costs . each function is performed in one place. design. but there are no substantial cost differences between countries on final assembly . finance.high border costs on final goods and low border costs on parts . who tend to make their key components in Japan. Europe and Asia.Global Strategy Under a global strategy.costs vary substantially across countries for different kinds of production and services . The global strategy could also be called a “specialization” strategy. and key component production may be centralized.) A branching strategy would normally be adopted by companies that exhibit some of the following traits: . all its production of components in the U. - - Branching Strategy The “branching” strategy is a hybrid of the exporting and multidomestic strategies. For example. Thus. and high communication costs between these functions . The functions are carried out according to the global pattern. and all its final assembly in the Philippines. (Final assembly plants in a branching strategy are sometimes called screwdriver factories.high transportation costs on final goods and low transportation costs on parts .fixed costs are large We sometimes observe companies switching to a specialization strategy when facing competitive pressures. Some functions are centralized and other functions are decentralized.large economies of scale in engineering. but the firm itself does not carry out the offshore activities. a firm following this strategy might do all its finance in the US. but the functions are not all performed in the same place. strategic management and the manufacture of key components.S. this is a combination of the exporting and global strategy.low fixed costs on final assembly and high fixed costs on parts . For example. while final assembly and marketing may be decentralized. A specialization strategy would normally be adopted by companies that exhibit some of the following traits: . the firm’s own activities are centralized. all its R&D functions in Germany. 4 . R&D. but do final assembly and marketing in North America. Examples include some of the Japanese automakers. the firm contracts other firms to carry out its foreign operations.large foreign markets - Offshore Outsourcing Strategy Under this strategy.home country has cost advantage on parts.
wages tend to approximately reflect average productivity levels. .Important services usually include financing. - Specific Issues – Cost Related Costs of Inputs Labour . Transnational Strategy The transnational strategy is another strategy often identified as one of the main strategies. then replication is expensive.the responsiveness of suppliers (delays can shut down your production).How do you determine whether a location will have a cost advantage in labour for a particular industry? Components/Raw Materials . labour in one company is usually a small percentage of the total costs.Some countries still suffer from frequent black outs.Each location is going to have cost advantages in some industries and cost disadvantages in other industries. For example. Proponents of the transnational strategy sometimes claim that this strategy has the advantages that both the multidomestic and global strategies have. .The importance of local service providers depends on how relevant the local rules/environment are and the nature of the services. and uses the global strategy for the activities where the global strategy makes the most sense.- An example is Nike. then it has to bear the cost of replication. and computer support. it appears that the transnational strategy is really a hybrid of the other strategies. if a firm has high fixed costs. Services .The issues here are: . . Energy . If the transnational strategy involves a presence in each market.the cost of getting goods to your door. and that the firm uses a multidomestic strategy only for those activities where that strategy makes the most sense.In some countries.) - - - 5 . (Some companies set up their own generation plant to solve this problem. . energy may be subsidized. . But they gloss over the disadvantages of these strategies. whose products are manufactured by independent companies in various Asian countries. In effect.As we noted when we looked at the theory of comparative advantage. There is no way around that problem. legal.Nowadays total cost is the issue. and . Lower wages do not necessarily imply lower wage costs.
Why? Generalizations on strategy: . “not everything that can be counted counts. if there are standard issues and standard ways of communicating .” Some generalizations on whether communication can be done across long distances: . This point is driven home by the surprisingly low success rate of mergers and takeovers.g.- Generalizations: . However.If highly responsive suppliers are needed – the firm may need to be close to a well integrated economy Shipping Costs Whether shipping costs are high usually depends on the value-to-weight ratio.the more standardized issues are. the more important proximity is (whereas one-way communication can more easily be at a distance) . However. firms continue to do mergers and acquisitions. the less important proximity is . the more important direct personal contact is.if one place dominates across all key functions – use the exporting strategy .The greater the importance of trust.the more interactive the communication needs to be.the greater the shipping costs the more likely the multidomestic strategy will be chosen .if the product has low shipping costs for certain components but high shipping costs for the final good. the managers who decide to do a merger appear to consistently underestimate the costs associated with integrating two companies. “if you can’t measure it. Despite the low success rate. Communication is intangible and hard (impossible?) to measure.international and multidomestic strategies are best if communication across functions is important (and if proximity is important to that communication) - - - 6 . as Einstein observed. and not everything that counts can be counted. you can’t manage it”. This idea may point to the reason many managers do not appreciate the costs and benefits of communication issues. the company may pursue a branching strategy Communication Costs within the Firm Communication and interaction within a company are exceptionally important. Peter Drucker (a famous management guru) has said.If cost differences are substantial across countries then: . Besides weight. But many people doubt shipping costs amount to much.if optimal locations vary across functions – use the global strategy . probably because they are lured by the benefits of economies of scale.e. what factors affect shipping costs? Generalizations: . It seems reasonable to conclude that communication within the company is more important than managers realize.
regardless of the size. the more likely the multidomestic strategy will be chosen for a function . A simple example illustrates this concept. while an - 7 . the cost of processing the transaction is the same. tariffs.g.000 units of an input. . you might set up an operation that is more substantial than just a garage. .currency exchange Generalizations: . doubling size often does not require a doubling of materials required to increase to that size. For example. For example. .000 units of an input versus 2. a building of a particular square footage is usually less than twice the cost of the same building of half the square footage.- the global and exporting strategies are best if communication within a function (company-wide) is important (and if proximity is important to that communication) Border Costs What types of border costs are there? . Here we will dig a little deeper by examining the nature of economies that firms enjoy. For example. but would still not employ the technologies used in the mass-production auto plants. when a purchasing department must purchase 1. the larger the current output.There are several reasons why economies of scale exist.Physics: By the laws of physics. Economies of Scale: .but border costs can vary for different components and so replication may be done for certain components (or assembly) and not others - Fixed Costs An obvious generalization is that if a function is characterized by high fixed costs associated with a location.Economies of scale exist where an expansion of output by x% raises the total costs by less than x%. If you were building 100 cars. if you were only building one car.Scale Dependent Technologies: Some technologies only get feasible once the level of output exceeds some critical value.the greater the border costs. .With economies of scale. . it is advantageous to have that function done in only one place to avoid incurring duplicate fixed costs.Indivisibilities: This term refers to the situation where a minimum fixed level of capital or labour must be deployed to produce any positive amount of output in a location. the cost of fencing an area of 1 hectare (shaped in a square) requires 400 metres of fencing. you would not construct an automanufacturing plant. the lower the average cost.government barriers (e. administrative barriers) .
What are some causes of economies of scope? Experience Curve Economies: . These disadvantages increase as a plant gets larger. . the lower the average cost. Four times the area requires only double the fencing. For this reason. They may also calibrate the firm’s machines better.If certain components involve substantial economies of scale.Experience curve economies arise because employees and managers figure out how to improve their procedures the more experience they have at producing a good.If production has substantial economies of scale. People or firms who are part of the chain.Monitoring/control problems: There appears to be a tension between a “tall” organization structure (with many levels of supervisors) and a “flat” organization structure (with few levels of supervisors).For a firm with experience curve economies. .) The best explanations for diseconomies of scale that I am aware of are: . . or possibly outsourcing. the larger the firm’s output in the past.- - - area of 4 hectares requires 800 metres. but there is a limit to how much a person can monitor.Diseconomies of scale also exist. Economies of Scope: . though it is harder to see why they should exist. which tends to waste time and be costly.Can experience curve economies at one location be exploited in another location? Generalizations: . only to have most of them fail. you will tend towards branching. The disadvantage of a tall structure is that decisions typically have to go through a number managers. The disadvantage of a flat structure is that middle managers have a broad span of responsibilities. Similarly. . (This failure to understand diseconomies is shared both by academics – who have not come up with a compelling explanation for diseconomies of scale – and by businesspeople – who persistently undertake mergers to exploit economies of scale. you will tend to use the exporting or global strategy.Economies of scope exist where one firm can produce two or more products at a lower cost than separate firms can produce those products independently. while final assembly and marketing do not involve substantial economies of scale. .“Experience curve economies” is also known as “learning-by-doing”. employees in large plants tend to be able to secure higher wages than what employees in smaller plants get. can exploit this by demanding more wages (or higher prices). the more costly a disruption gets. . suppliers may be able to extract higher prices from managers who place a high value on their own time and therefore choose to forego longer negotiations to secure better prices.Hold-up problems: The larger the operation. . 8 .
For some types of products. - 9 . How would experience curve economies affect a firm’s strategy? Specific Issues – Willingness-to-Pay Related Product Design/Adaptation Gist of popular reasoning: .If proximity is important in design / manufacturing .replicate R&D if customers are spread out and demands differ across regions . a firm producing machinery parts may find that its customers are willing to pay a premium to receive their product more quickly. it is important that the customer can communicate with a local representative.The multidomestic strategy or branching strategy is best if frequent face-toface communication with customers is important. For example.design should be geographically close to manufacturing .ergo – manufacturing should be close to the customers Does design really have to be close to the customers? Does manufacturing really have to be close to design? Generalizations: .There may be ways to achieve effective product development without close proximity . customers want their product very soon after ordering it. Similarly.design should be geographically close to the customers . Generalization: .centralize R&D if customers are close to home . since they need the part to operate their machinery.centralize or replicate - Response Time – Order to Delivery For some products. you will tend to use the exporting or global strategy. With the popularity of JIT. Do you really have to be geographically close to have quick delivery? Generalizations: . - Communication with Customers The issues described above for communication within a firm also apply to communication with customers. responsiveness is more important than ever.If order-to-delivery time is important – the multidomestic strategy may be best if fast transportation is too expensive.If proximity is important in the design / customer relationship .- If there are strong economies of scope in producing 2 or more products. customers ordering a Big Mac want to receive it within minutes. Down time is too costly.
Which countries hold a reputation for high quality? .Which countries enjoy a good reputation for automobiles? In some areas.Which countries suffer from a reputation for low quality? . .alternative: brand name trickery - - 10 .Japanese markets seem to prefer Japanese-made goods.if patriotism is at issue – multidomestic strategy .if quality is an issue – global strategy / exporting strategy .In auto-producing areas of North America – specifically Michigan and Ontario – people tend to buy more North American autos.Perceptions Perceptions about quality matter most in the manufacturing and design functions. Quality perceptions: . . patriotism/bias play a role in people’s buying patterns.Specific products: . Generalizations: .Wal-Mart under Sam Walton’s leadership actively gave preference to American made goods.Which countries enjoy a good reputation for wine? . .
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