STRATEGY FORMULATION: Types of Strategies

Strategy
FORMULATION
Types of Strategies

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 STRATEGY FORMULATION: Types of Strategies

Strategy formulation is the first stage in the strategic-management process. It includes

developing a vision/mission, identifying an organization’s external opportunities/threats,
determining internal strengths/weaknesses, establishing long-term objectives, generating
alternative strategies, and choosing particular strategies to pursue.

This chapter provides an introduction to different types of strategies. Strategies represent

the actions to be taken to accomplish organizational objectives. This chapter also provides
guidelines on which strategy is most appropriate to pursue.

International Strategic Planning

Internal
Audit

Mission Strategy
and Strategy
Types of Generation Strategy Strategy
Vision Implemen
Strategies and Execution Monitoring
tation
Analysis Selection

External
Audit

Ethics/ Corporate Social Responsibility

Figure 4-1. Strategy Formulation (David & David 2015)

Hansen and Smith explain that strategic planning involves “choices that risk resources” and
“trade-offs that sacrifice opportunity.” In other words, if you have a strategy to go north, then you
must buy snowshoes and warm jackets (spend resources) and forgo the opportunity of “faster
population growth in southern states.” You cannot have a strategy to go north and then take a step
east, south, or west “just to be on the safe side.” Firms spend resources and focus on a finite number
of opportunities in pursuing strategies to achieve an uncertain outcome in the future. Strategic
planning is much more than a roll of the dice; it is a wager based on predictions and hypotheses
that are continually tested and refined by knowledge, research, experience, and learning. The
survival of the firm itself may hinge on your strategic plan.

Organizations cannot do too many things well because resources and talents get spread thin
and competitors gain an advantage. In large, diversified companies, a combination strategy is
commonly employed when different divisions pursue different strategies. Also, organizations

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struggling to survive may simultaneously employ a combination of several defensive strategies,

such as divestiture, liquidation, and retrenchment.

Levels of Strategies

Strategy formulation includes the identification of various ways that an organization may
undertake to achieve the performance targets, weaken the competitors, achieve competitive
advantage and ensure the long-term survival of the organization.

In a diversified company, a company having different lines of business under one umbrella,
strategies are initiated at four levels of strategies: corporate, divisional, functional, and operational
—as illustrated in Figure 4-2. However, in small firms, there are three levels of strategies: company,
functional, and operational.

Figure 4-2. Level of Strategies

1. Corporate level strategy- defines the markets and businesses in which a company will
operate. Corporate strategy is formulated at the top level by the top management of a
diversified company or the Chief Executive Officer or owner or president of a small
company. Corporate strategy defines the long-term objectives and generally affects all the
business units under its umbrella. There can be four types of strategies corporate
management may pursue: Growth, Stability, Retrenchment, and Combination.

2. Business level strategy - defines the basis on which a firm will compete. Business strategies
are composed of competitive and cooperative strategies. The business strategy
encompasses all the actions and approaches for competing against the competitors and the

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ways management addresses various strategic issues. In this regard, Michael Porter’s
competitive strategies are of great use.

Business strategy is usually formulated in line with corporate strategy. The main focus of
the business strategy is on product development, innovation, integration (vertical,
horizontal), market development, diversification, and the like. It is concerned with actions
that managers undertake to improve the market position of the company through satisfying
the customers.

3. Functional level strategy- refers to a strategy that emphasizes a particular functional area of
an organization. It is formulated to achieve some objectives of a business unit by
maximizing resource productivity. Sometimes functional strategy is called departmental
strategy since each business function is usually vested with a department. It includes
production strategy, marketing strategy, advertisement strategy, sales strategy, human
resource strategy, inventory strategy, financial strategy, training strategy, etc. Functional
strategies are adopted to support a competitive strategy

4. Operational level strategy- is formulated at the operating units of an organization. Usually,

the operating managers/field-level managers develop an operating strategy to achieve
immediate objectives. In large organizations, the operating managers normally take
assistance from the mid-level managers while developing the operating strategy.

TYPES OF STRATEGIES

Growth Strategies

Growth strategies can be used in the form of concentration, integration (horizontal/vertical),

diversification, internationalization, cooperation, and digitalization.

a. Concentration

It means bringing in resources into one or more of a firm’s business keeping customer needs,
customer functions, alternative technologies, singly or jointly to expand.

b. Integration

Integration means joining activities related to the present activities of a firm. Integration not
only widens the scope of business but also a subset of diversification strategies. Integration can
be of the following types:

b.1. Horizontal Integration- when a firm takes over the other firm operating at the same
level of production or marketing.

Example: Facebook and Instagram

One of the most definitive examples of horizontal integration was Facebook's acquisition of
Instagram in 2012 for a reported $1 billion. Both Facebook and Instagram operated in the

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same industry (social media) and shared similar production stages in their photo-sharing
services. Facebook sought to strengthen its position in the social sharing space and saw the
acquisition of Instagram as an opportunity to grow its market share, reduce competition, and
gain access to new audiences. Facebook realized all of these through its acquisition. Instagram
is now owned by Facebook but still operates independently as its own social media platform.

b.2. Vertical Integration- When a firm acquires control over another firm operating in the
same value chain.

Example: Netflix
Netflix is a prime example of vertical integration. The company started as a DVD rental
business before moving into online streaming of films and movies licensed from major studios.
Then, Netflix executives realized they could improve their margins by producing their original
content. Today, Netflix uses its distribution model to promote its original content alongside
programming licensed from studios.

c. Diversification
Adding a new customer function(s), customer group(s), or alternative technologies to an
existing business is known as diversification. Diversification can occur at the business level
or the corporate level. Diversification strategies can be of the following types:

c.1. Concentric diversification- Concentric diversification involves adding similar products

or services to the existing business. For example, when a computer company that primarily
produces desktop computers starts manufacturing laptops, it is pursuing a concentric
diversification strategy.

c.2. Conglomerate or unrelated diversification- Conglomerate diversification involves

adding new products or services that are significantly unrelated and with no technological
or commercial similarities. For example, if a computer company decides to produce
notebooks, the company is pursuing a conglomerate diversification strategy.
Of the three types of diversification techniques, conglomerate diversification is the
riskiest strategy. Conglomerate diversification requires the company to enter a new market
and sell products or services to a new consumer base. A company incurs higher research
and development costs and advertising costs. Additionally, the probability of failure is much
greater in a conglomerate diversification strategy

c.3. Horizontal diversification- Of the three types of diversification techniques,

conglomerate diversification is the riskiest strategy. Conglomerate diversification requires
the company to enter a new market and sell products or services to a new consumer base. A
company incurs higher research and development costs and advertising costs. Additionally,
the probability of failure is much greater in a conglomerate diversification strategy.

d. Internationalization

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Expansion through Internationalization is the strategy followed by an organization when it

aims to expand beyond the national market. The need for Expansion through
Internationalization arises when an organization has explored all the potential to expand
domestically and look for expansion opportunities beyond the national boundaries.

e. Cooperative Strategy

A strategy in which two or more firms work together to achieve common objectives. It may
take the form of Mergers and Acquisitions (like Tata Motors acquired Jaguar Land Rover
facilities of UK); Joint Ventures (like Indian Oil company floated an oil marketing company
in Sri Lanka in collaboration with a local company), and Strategic Alliances (the two
cooperating firms remain independent but cooperate for synergy).

f. Digitalization Strategy
This strategy is used by the organization to advance its digital transformation. It includes
computerization, electronification, and digitalization (conversion of analog electrical signals
into digital signals).

Defensive Strategies

The goal of these strategies is to hold onto the position as the market leader, fighting off
competitors who try to take away your market share. In addition to integrative, intensive, and
diversification strategies, organizations also could pursue retrenchment, divestiture, or liquidation.

a. Retrenchment- occurs when an organization regroups through cost and asset reduction to
reverse declining sales and profits. Sometimes called a turnaround or reorganizational
strategy, retrenchment is designed to fortify an organization’s basic distinctive competence.
During retrenchment, strategists work with limited resources and face pressure from
shareholders, employees, and the media. Retrenchment can entail selling off land and
buildings to raise needed cash, pruning product lines, closing marginal businesses, closing
obsolete factories, automating processes, reducing the number of employees, and
instituting expense control systems.

b. Divestiture- Selling a division or part of an organization is called divestiture. Divestiture

often is used to raise capital for further strategic acquisitions or investments. Divestiture
can be part of an overall retrenchment strategy to rid an organization of unprofitable
businesses, that require too much capital, or that do not fit well with the firm’s other
activities.

c. Liquidation- Selling all of a company’s assets, in parts, for their tangible worth is called
liquidation. Liquidation is a recognition of defeat and consequently can be an emotionally
difficult strategy. However, it may be better to cease operating than to continue losing large
sums of money.

Stability strategies

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A stability strategy is a corporate strategy where a company concentrates on maintaining its

current market position. A company that adopts such an approach focuses on its existing product
and market. A few examples of this strategy are offering the same products to the same clients, not
introducing new products, maintaining market share, and more.

Combination Strategies

All the strategies discussed above can be applied simultaneously, sequentially, or in combination.

Porter’s Five Generic Strategies

Porter's Five Forces is a model that identifies and analyzes five competitive forces that shape every
industry and helps determine an industry's weaknesses and strengths. Five Forces analysis is
frequently used to identify an industry's structure to determine corporate strategy. Porter's model
can be applied to any segment of the economy to understand the level of competition within the
industry and enhance a company's long-term profitability. The Five Forces model is named after
Harvard Business School professor, Michael E. Porter. (Chappelow & Scott, 2020)

1. Competition in the Industry

The first of the five forces refers to the number of competitors and their ability to undercut a
company. The larger the number of competitors, along with the number of equivalent products and
services they offer, the lesser the power of a company. Suppliers and buyers seek out a company's
competition if they can offer a better deal or lower prices. Conversely, when competitive rivalry is
low, a company has greater power to charge higher prices and set the terms of deals to achieve
higher sales and profits.

2. Potential of New Entrants Into an Industry

A company's power is also affected by the force of new entrants into its market. The less time and
money it costs for a competitor to enter a company's market and be an effective competitor, the
more an established company's position could be significantly weakened. An industry with strong
barriers to entry is ideal for existing companies within that industry since the company would be
able to charge higher prices and negotiate better terms.

3. Power of Suppliers

The next factor in the five forces model addresses how easily suppliers can drive up the cost of
inputs. It is affected by the number of suppliers of key inputs of a good or service, how unique these
inputs are, and how much it would cost a company to switch to another supplier. The fewer
suppliers to the industry, the more a company would depend on a supplier. As a result, the supplier
has more power and can drive up input costs and push for other trade advantages. On the other
hand, when there are many suppliers or low switching costs between rival suppliers, a company
can keep its input costs lower and enhance its profits.

4. Power of Customers

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The ability that customers have to drive prices lower or their level of power is one of the five forces.
It is affected by how many buyers or customers a company has, how significant each customer is,
and how much it would cost a company to find new customers or markets for its output. A smaller
and more powerful client base means that each customer has more power to negotiate for lower
prices and better deals. A company that has many, smaller, independent customers will have an
easier time charging higher prices to increase profitability.

5. Threat of Substitutes

The last of the five forces focus on substitutes. Substitute goods or services that can be used in place
of a company's products or services pose a threat. Companies that produce goods or services for
which there are no close substitutes will have more power to increase prices and lock in favorable
terms. When close substitutes are available, customers will have the option to forgo buying a
company's product, and a company's power can be weakened.

MEANS FOR ACHIEVING STRATEGIES

1. Cooperation among Competitors

Strategies that stress cooperation among competitors are being used more. For collaboration
between competitors to succeed, both firms must contribute something distinctive, such as
technology, distribution, basic research, or manufacturing capacity. But a major risk is that
unintended transfers of important skills or technology may occur at organizational levels below
where the deal was signed.

2. Joint Venture and Partnering

A joint venture is a popular strategy that occurs when two or more companies form a temporary
partnership or consortium to capitalize on some opportunity. Often, the two or more sponsoring
firms form a separate organization and have shared equity ownership in the new entity. Other
types of cooperative arrangements include research and development partnerships, cross-
distribution agreements, cross-licensing agreements, cross-manufacturing agreements, and joint-
bidding consortia.

3. Merger/Acquisition

Merger and acquisition are two commonly used ways to pursue strategies. A merger occurs when
two organizations of about equal size unite to form one enterprise. An acquisition occurs when a
large organization purchases (acquires) a smaller firm, or vice versa. When a merger or acquisition
is not desired by both parties, it can be called a takeover or hostile takeover. In contrast, if the
acquisition is desired by both firms, it is termed a friendly merger.

4. First-Mover Advantages

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First-mover advantages refer to the benefits a firm may achieve by entering a new market or
developing a new product or service before rival firms. Some advantages of being a first-mover
include securing access to rare resources, gaining new knowledge of key factors and issues, and
carving out market share and a position that is easy to defend and costly for rival firms to overtake.
First-mover advantages are analogous to taking the high ground first, which puts one in an
excellent strategic position to launch aggressive campaigns and defend territory. Being the first
mover can be an excellent strategy when such actions (a) build a firm’s image and reputation with
buyers, (b) produce cost advantages over rivals in terms of new technologies, new components,
new distribution channels, and so on, (c) create strongly loyal customers, and (d) make imitation or
duplication by a rival hard or unlikely.

5. Outsourcing and Reshoring

Business-process outsourcing (BPO) involves companies hiring other companies to take over
various parts of their functional operations, such as human resources, information systems, payroll,
accounting, customer service, and even marketing. Companies choose to outsource their functional
operations for several reasons: (a) it is less expensive, (b) it allows the firm to focus on its core
businesses, and (c) it enables the firm to provide better services. Other advantages of outsourcing
are that the strategy (a) allows the firm to align itself with “best-in-world” suppliers who focus on
performing the special task, (b) provides the firm flexibility should customer needs shift
unexpectedly, and (c) allows the firm to concentrate on other internal value chain activities critical
to sustaining competitive advantage. BPO is a means for achieving strategies that are similar to
partnering and joint venturing.

Reshoring on the other hand is the practice of transferring a business operation that was
moved overseas back to the country from which it was originally relocated. The best example for
reshoring arises from U.S. companies that moved some of their manufacturing back to the USA.
About 14 to 37 percent of U.S. companies plan to restore in 2012–2014 for the following reasons: a
desire to get products to market faster and respond rapidly to customer orders; savings from
reduced transportation and warehousing; improved quality and protection of intellectual property;
pressure to increase U.S. jobs.30 For example, Google’s new Nexus Q music and video player is
being manufactured in the USA, something unusual for consumer electronics. GE’s website has an
“American Jobs Map” that gives details of 14,500 new GE jobs in the USA. A bill named the “Bring
Jobs Home Act” is being considered in Congress.

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EXCELLENT
STRATEGIC
MANAGEMENT
SHOWCASED

Petronas

PETRONAS, short for Petroliam Nasional Berhad, is a Malaysian oil and gas company,
wholly owned by the Government of Malaysia. Headquartered in Kuala Lumpur, PETRONAS owns
the entire oil and gas resources in Malaysia and is responsible for developing and adding value to
these resources. In 2013, Fortune ranked PETRONAS as the 75th largest company in the world, the
19th most profitable company in the world, and the most profitable company in Asia. PETRONAS
has business interests in 35 countries and is engaged in a wide spectrum of petroleum activities,
including upstream exploration and production of oil and gas as well as downstream oil refining,
marketing, and distribution. Revenue derived from PETRONAS provides roughly 45 percent of the
Malaysian government’s annual budget. PETRONAS was one of the main sponsors of the BMW
Sauber Formula One team before sponsoring the Mercedes Grand Prix team. PETRONAS is the main
sponsor for the Malaysian Grand Prix and co-sponsors the Chinese Grand Prix.
Among other strategies, PETRONAS is pursuing backward integration by purchasing its
ships to transport its oil and gas, especially its liquefied natural gas (LNG). PETRONAS is directly
procuring new LNG ships to meet its LNG transportation requirements. The strategy will allow
PETRONAS to have direct access to LNG shipping capacity at the lowest possible costs. P E T R O N A
S has engaged MISC Bhd to provide Project Management and Technical Consultancy services for the
construction of its new LNG ships; MISC’s has extensive experience and expertise in the LNG
shipping sector and is familiar with PETRONAS’ business needs.

PETRONAS since 1975 has awarded 20,600 Malaysian students scholarships, including a
total of 400 deserving students in 2013 to pursue their education under its PETRONAS Education
Sponsorship Programme (PESP). Scholarship recipients are chosen during rigorous selection days
held across Malaysia and are offered opportunities to take education at overseas institutions or the
Universiti Teknologi PETRONAS in Perak. PESP aims to develop the skills of a pool of young people
who meet PETRONAS’ business requirements.

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