INTRODUCTION TO STRATEGY

What is strategy?

 Strategy - a firm’s theory on how to compete successfully.

 Strategic management – a way of managing the firm from a “big picture” perspective

 Strategy as plan – a perspective that suggests that strategy is most fundamentally

embodied in explicit, rigorous, formal planning, as in the military, a set of concrete

plans to help the organization accomplish its goal

 Strategy as action – a perspective that suggests that strategy is fundamentally

reflected by firms’ patterns of action (in addition to the intended strategy (a

deliberately planned for strategy), an emergent strategy (based on the outcome of a

stream of smaller decisions from the bottom up)

 Strategy as integration/theory – a perspective that suggests that strategy is neither

solely about plan nor action and that strategy integrates elements of both, serves for

both explanation and prediction

1. Strategy formation –the crafting of the firm’s theory

2. Strategy implementation – actions are undertaken to carry out the firm’s

strategy

3. SWOT analysis
Fundamental question in strategy

1. Why do firms differ?

o Cultural differences

o Networks of relationships

2. How do firms behave?

o Strategy tripod – a framework that suggests that strategy as a discipline has

three key perspectives:

o 1. industry – based (focuses on competitive forces within an industry that

impact all firms, external O&T),

o 2. resource – based (focuses on internal S&W firm-specific resources and

capabilities)

o 3. institution – based (focuses on government and societal forces) view

3. What determines the scope of the firm?

o Most firms have a lingering love affair with growth

o Conglomeration strategy – does well in emerging but destroys value in

developed economies because of the function of the level of institutional

(under)development in these countries

4. What determines the international success and failure of firms?

o Industry-based view – degree of competitiveness in the industry

o Resource-based view- firm-specific differences in capabilities

o Institution-based view – institutional forces, such as economic reforms and

government policy

o A true determinant is the combination of these three views

o Triple bottom line – consists of economic, social, and environmental

dimensions
 o Balanced scoreboard – performance evaluation method from the customer,

internal, innovation and learning, and financial perspectives

What is global strategy?

 Strategy of firms around the globe

 Particular form of international strategy, characterized by the production and

distribution of standardized products and services on a worldwide basis

 Provide standardized products and/or services worldwide

 Globalization – close integration of countries and people of the world

o A pendulum view – globalization is unable to keep going in one direction,

transportation and communication revolutions, breakdown of artificial barriers

in trade and investment

o Semiglobalization – a perspective that suggests that barriers to market

integration at borders are high but not high enough to completely insulate

countries from each other

INDUSTRY-BASED APPROACH

Defining industry competition

 Industry – a group of firms producing products (goods and/or services) that are similar

to each other

 Market structures:

o Perfect competition – a competitive situation in which the price is set by the

market, all firms are price takers, and entries and exits are relatively easy.

o Monopolistic competition – many firms offer similar products and/or services

but not perfect substitutes

o Oligopoly – a few firms control the industry

 o Monopoly - one firm provides the goods and/or services for an industry

 Industrial organization (IO) economics– a branch of economics that seeks to better

understand how firms in an industry compete and then how to regulate them.

o Structure-conduct performance (SCP) model – an industrial organization of

economic models that suggest industry structure determines a firm’s conduct

(strategy), which in turn determines a firm’s performance.

 Structure – structural attributes of an industry (such as the costs of

entry/exit)

 Conduct – firm actions (such as product differentiation)

 Performance – the result of firm conduct, can be classified as (1)

average/normal, (2) below-average, and (3) above-average

o Goal – to help policymakers (regulators) understand how firms compete in

order to properly regulate them, to help regulators minimize firm's excess

profits .

The Five Forces Framework

 A framework governing the competitiveness of an industry proposed by Michael

Porter

 The stronger these forces are, the less likely the firm is able to earn an above-average

return and vice versa

1. Intensity of rivalry among competitors

o Action that indicates high intensity: (1) frequent price wars, (2) proliferation of

new products, (3) intense advertising campaigns, and (4) high-cost competitive

actions and reactions

 o Intense rivalry threatens firms by reducing profits.

o Conditions that lead to intense rivalry:

 A large number of competing firms – concentrated industries have

fewer competitors, and a greater likelihood of recognizing mutual

interdependence leads to the strain of rivalry, for example, the

luxury segment car industry.

 Rivals of similar size, influence, and product offerings – vigorous

competition, especially if unable to differentiate their products

(airlines), the dominant player lessens rivalry.

 High-price, low-frequency purchases – difficult to establish

dominance, easier to be dominant in the “staple goods” industries

with low prices

 Capacity is added in large increments – large capacity additions can

cut prices in the industry, price cutting as a primary coping

mechanism, for example, cruise lines, hotels

 Industry slow growth or decline – makes competitors more

desperate, actions not previously considered are unleashed

 High exit costs (high exit barriers) – makes firms likely to operate

at a loss, specialized facilities and equipment have little or no

alternative use, emotional, personal, and career costs.

2. Threat of potential entry

o Incumbents – current members of an industry that compete against each other, they

want to keep potential new entrants out

o Primary defense – entry barriers (industry structures that increase the cost of entry)

o Structural attributes associated with high entry barriers:

  Scale-based advantages – derived from economies of scale (the

more a firm produces some products, the lower the unit costs

become)

 Non-scale-based advantages – low-cost advantages that are not

derived from economies of scale, patents, and know-how

 Product proliferation – efforts to fill product space in a manner that

leaves little “unmet demand” for potential entrants

 Product differentiation – the uniqueness of products that customers

value, two underlying sources: brand identification and customer

loyalty

 Network externalities – value a user derives from a product

increases with the number (or the network) of other users of the

same product

 Fear of retaliation (excess capacity)– additional production capacity

currently underutilized or not utilized

 Government policy banning or discouraging entry

3. Bargaining power of suppliers

o Ability of suppliers to raise prices and/or reduce the quality of goods and services

o Conditions that lead to suppliers’ strong bargaining power:

 A small number of suppliers – leads to high market power

 Suppliers provide unique, differentiated products – no substitutes

 Focal firm is not an important customer of suppliers

 Suppliers are willing and able to vertically integrate forward – may

threaten to become suppliers and rivals

 o Suppliers can squeeze profitability out of firms in the focal industry

4. Bargaining power of buyers

o The ability of the buyer to reduce prices and/or enhance the quality of goods and

services.

o Conditions that lead to buyers’ strong bargaining power:

 A small number of buyers

 Products provide little cost savings or quality-of-life enhancement

to the buyers – for example: repeated and frequent software updates

can cause fatigue.

 Buyers purchase undifferentiated products from the focal firm

 Buyers are willing and able to vertically integrate backward –

backward integration (acquiring and owning upstream assets),

5. Threat of substitutes

o Products or different industries that satisfy customer needs currently met by the

focal industry

o Threatening characteristics of substitutes:

 Superior to existing products

 Switching costs are low

 Lessons from the Five Force Framework:

o Not all industries are equal in terms of their potential profitability

o The task is to analyze potential opportunities and threats and then estimate the

likely profit.

o The key is to position your firm well within an industry and defend its position.

o Also known as The Industry Positioning School

Three generic strategies

 Intended to strengthen the focal firms’ position relative to the five competitive forces

1. Cost leadership

o A competitive strategy that centers on competing on low cost and prices

o Targets average customers for the mass market

o High-volume and low-margin

o Little differentiation

o Key functional areas: manufacturing, services, logistics

o Drawbacks:

 Outcompeted on costs – forces the leader to lower prices

 “Cutting corners”

o E.g., Walmart

2. Differentiation

o Focuses on how to deliver products that customers perceive as valuable and

different

o Low-volume and high-margin

o Target smaller, well-defined segments who are willing to pay a premium price.

o Must have unique attributes: quality, sophistication, prestige, luxury

o Key functional areas: R&D, marketing and sales

o Drawbacks:

 Difficulty in sustaining

 Relentless efforts of imitation

3. Focus

o Serves the needs of a particular segment or niche of an industry

 o Criteria for segment identification: geographical market, type of customer,

product line

o Specialized differentiator (Bentley) vs. large differentiator (BMW)

 Lessons from the three generic strategies:

o Essence: to perform activities differently, to perform different activities

o Choose one dimension and focus on it

o “Stuck in the middle” firms have no or drifting strategy

Debates and extensions

1. Clear versus blurred boundaries of industry

o The heart of the industry-based view is the identification of a clearly defined

industry

o This concept may become elusive

o Example: television broadcasting industry blending with the PC

o View all the players involved as an “ecosystem” which makes it extremely

hard to identify the five forces

2. Threats versus opportunities

o Strategic alliances are on the rise (competition or collaboration)

o Intensive rivalry can become an opportunity instead of a threat, they are

making them stronger

o Five forces may have overemphasized the threat

3. Five forces versus a sixth force

o in 1990, Porter added another force – Related and supporting industries

o Complementors – firms that sell products that add value to the products of the

focal industry
4. Stuck in the middle versus an all-rounder

o Some firms stand out as cost leaders and differentiators.

- Singapore Airlines: Cost efficiency & great service

o Holding technology constant – firms already operating at maximum efficiency

scale, further cost savings are not possible and differentiation is a must

o Technology may not be constant – flexible manufacturing technology has led

to mass customization

5. Industry rivalry versus strategic groups

o In a broadly defined industry, not every company is competing with each other

o Some groups of firms in an industry do compete with each other

o Strategic groups: different groups of firms in an industry with each other have

similar strategies

o How stable are groups? Mobility barriers (within industry differences that

inhibit the movement between strategic groups) exist

o Availability of data to classify strategic group membership: simplifying

schemes are used to better organize strategic understating around some

identifiable reference point

o Strategic groups are useful, but somewhat controversial middle ground

between industry-level and firm-level analyses

6. Integration versus outsourcing

o Backward and forward integration blur industry boundaries: usually

recommended in conditions of high market uncertainty, huge sums of capital

needed

o Under the condition of uncertainty, less integration is advisable because of

increased strategic flexibility.

 o Internal suppliers may lose high-powered market incentives which decreases

competitiveness.

o Outsourcing is replacing integration in the last two decades.

7. Industry-specific versus firm-specific and institution-specific determinants of

performance

o Industry-based argues that firm performance is most fundamentally determined

by industry-specific attributes

o Views that challenged this: resource-based and institution-based views

RESOURCE-BASED APPROACH

Understanding resources and capabilities

 A firm consists of a bundle of productive resources and capabilities

 Resources – tangible and intangible assets a firm uses to choose and implement its

strategies

 Capabilities – the firm’s capacity to dynamically deploy resources.

 Distinction between resources and capabilities can become blurred in practice

 The key is to understand how these attributes help the firm performance

 Tangible resources: financial, physical, technological

 Intangible resources: human R&C, innovation, reputation

Value Chain

 A value chain allows us to answer the question of how resources and capabilities

come together in order to add value

 Forces manager to think about firms resources and capabilities at a very micro,

activity-based level
 Key issue: to examine whether the firm has R&C to perform a particular activity in a

manner superior to others, a process known as benchmarking

 A decision model can be used to remedy a situation if managers find that their activity

is unsatisfactory.

 The Value Chain has primary (input, R&D, components, final assembly, marketing,

output) and support (infrastructure, logistics, human resources) activities

 Commoditization – a process of market competition through which unique products

that command high prices and high margins generally lose their ability to do so – these

products thus become “commodities”

 DO WE REALLY NEED TO PERFORM THIS ACTIVITY IN THE HOUSE?

 WE DON’T:

 Outsourcing – turning over all or part of an activity to an outside supplier to improve

the performance of the focal firm

 WE DO, current resources and capabilities are not up to the task, then there are two

choices

 If the firm doesn’t want to outsource, they can better their capabilities in-house or

access them through alliances.

 Offshoring – international/foreign outsourcing

  Onshoring – domestic outsourcing

 Captive sourcing – setting up subsidiaries to perform in-house work in foreign

locations

 Domestic in-house activity

VRIO

 Value

o Do firms’ resources and capabilities add value?

o Only value-adding activities can lead to a competitive advantage.

 Rarity

o How rare are valuable resources and capabilities?

o Valuable but common resources and capabilities will lead to parity but no

advantage.

 Imitability

o Competitive advantage can only be achieved if competitors have a difficult

time imitating them

o Causal ambiguity – the difficulty of identifying the causal determinants of

successful firm performance

 Organization

o Valuable, rare, and hard-to-imitate resources and capabilities have to be

properly organized

o Complementary assets – numerous noncore assets that complement and

support the value-adding activities of core assets

o Social complexity – the socially complex ways of organizing typical of many

firms
  Strategic sweet spot

o Perfect combination of competitors’ offerings, customers’ needs, and the

company’s capabilities

o Strategic ambidexterity – firm’s dynamic capabilities to simultaneously

manage influences from both governments and markets

Debates and extensions

1. Firm-specific versus industry-specific determinants of performance

o Usefulness of both approaches

o How to measure unobservable firm-specific capabilities

o Good practical reason is that the combination of both drive firm performances

2. Static resource versus dynamic capabilities

o Resource-based logic is said to have a relatively static nature which is more

adequate for slow-moving industries

o Heavy emphasis needs to be put on dynamic capabilities

 o Knowledge-based view: tacit knowledge (ultimate knowledge a firm can have,

knowledge about customers, product development processes, political

connections)

o Hypercompetition – a shortened window during which a firm may command

competitive advantage.

3. Offshoring versus non-offshoring

o Business process outsourcing (BPO) – outsourcing of business processes such

as loan origination, credit card processing, and call center operations,

particularly for IT

o Benefits: taping into low-cost, high-quality labor, focus on core capabilities

o Problems: strategic (offshoring nurtures rivals), economic (developed

economies are overall gaining more), political (degrading human work,

unethical practices overseas)

 o Original equipment manufacturer (OEM) – a firm that executes design

blueprints provided by other firms and manufactures such products

o Original design manufacturer (ODM) – a firm that both designs and

manufactures products

o Original brand manufacturer (OBM) – a firm that designs, manufactures, and

markets branded products

4. Domestic resources versus international (cross-border) capabilities

o Domestic resources and cross-border capabilities can and cannot essentially be

the same

o Good example: Zara, LVMH, Gucci IKEA

o Bad example: Wal-Mart, Carefour

INSTITUTION-BASED APPROACH

Understanding institutions

 Institutions enable and constrain firm strengths

 Institutions – humanly devised constraints that structure human interaction

 Institutional framework – a framework of formal and informal institutions governing

individual and firm behavior

 Institutions are supported by “three pillars”:

o Regulatory – how formal rules, laws, and regulations influence the behavior of

individuals and firms, paying taxes out of patriotic duty and fear of

government regulations.
 o Normative – how the values, beliefs, and norms of other relevant players

influence the behavior of individuals and firms, known as norms

o Cognitive – the internalized, taken-for-granted values and beliefs that guide

individual and firm behavior

What do institutions do?

 Key role is to reduce uncertainty **

 Signal which type of conduct is legitimate

 Political uncertainty can render long-term planning obsolete

 Economic uncertainty results translate to a higher cost of capital

 Binding International Commercial Arbitration (BICA) – helps reduce uncertainty

 Transaction costs – costs associated with the economic transaction, or more broadly,

costs of doing business, an important source of transaction costs is opportunism (self-

interest seeking with guile)

How do institutions reduce uncertainty?

1. Relational contracting

o Contracting based on informal relationships

o Transaction is governed by informal norms and cognitive beliefs based on

what friendship is about

o When the enforcement regime is weak, trust can be exploited and abused
 2. Arm’s – length transaction

o Transaction in which parties keep a distance (formal, rule-based, impersonal

exchange)

o Economy expands, and the scale and scope of transaction rise.

o Initial costs per transaction are high but fall with time.

o Third-party enforcement is likely to facilitate the widening of markets

o Formal market-supporting institutions facilitate more new entries by lowering

transaction costs.

 Both institutions complement each other

 As transaction complexity rises, informal dealings within a group may become

difficult

 Interactions between institutions and firms work toward reducing transaction costs

 Institutional transitions – fundamental and comprehensive changes introduced to the

formal and informal rules of the game that affect organizations as players

An institution-based view of business strategy

 Porter’s diamond

o Argues that the competitive advantage of different industries in different

nations depends on four factors:

 Firm strategy, structure and rivalry – how industry structure and firm

strategy interact to affect interfirm rivalry

 Factor endowments – the endowments of production factors such as

land, water, and people in one country

 Related and supporting industries – industries that are related to and/or

support the focal industry

  Domestic demand conditions – demand for products and services

within a domestic economy

o Downside: Ignores history and institutions, the market-based institutional

framework has been taken for granted, and the institution-based framework

becomes more important as firms go abroad, especially in emerging

economies.

 Focuses on the dynamic interaction between institutions and firms.

 Two core propositions

o Managers and firms rationally pursue their interests and make choices within

the formal and informal constraints in a given institutional framework.

o While formal and informal institutions combine to govern firm behavior, in

situations where formal constraints are unclear or fail, informal constraints will

play a larger role in reducing uncertainty and providing constancy to managers

and firms.
The strategic role of cultures

 Culture – the collective programming of the mind that distinguishes the members of

one group or category of people from another

 There are many layers of cultures: within a firm is an organizational culture

 Five dimensions of culture

o Power distance – refers to the extent that the members of a society expect and

accept that power is distributed unequally (the degree of social inequality)

o Individualism/Collectivism – the perspective that the identity of an individual

is most fundamentally based on his or her individual attributes/collective group

 Individualism- ties between individuals are loose; individual

achievements highly valued (Germany)

 Collectivism- ties between individuals are strong; collective

accomplishments highly valued (China)

  E.g. In difficult times, the United States oftentimes practices layoffs

(individualism) while Japan oftentimes institutes across-the-board pay cuts

(collectivism)

o Masculinity versus femininity – refers to gender role differentiation

 Japan- high masculinity, Sweden- low masculinity

o Uncertainty avoidance – the extent to which members of different cultures

accept ambiguous situations and tolerate uncertainty

 High uncertainty avoidance countries: place a premium on job security, career

patterns, and retirement benefits; resist change (Greece)

 Low uncertainty avoidance countries: willing to take risks with less resistance

to change (Singapore)

o Long-term orientation – a perspective that emphasizes perseverance and

savings for future betterment

 Cultures with long-term orientation: emphasize perseverance and savings for

future betterment (China)

 Cultures with short-term orientation: want quick results and instant

gratification (the US, UK)

Cultures and strategic choices

 A great deal of strategic choices is consistent with Hofstede’s cultural dimensions

 Solicitation of subordinate feedback and participation – low power distance (as a sign

of weak leadership and low integrity in high power distance countries)

 Individualistic societies – foster high levels of entrepreneurship

 Masculine countries – mass manufacturing (Japan) , feminine countries – small-scale

customized manufacturing (Denmark)

  Low uncertainty avoidance – experience and training (UK), high uncertainty

avoidance – rules and procedures (China)

 Long-term orientation – firms with long horizons; market share vs. short-term profits

(Japan, Korea)

The strategic role of ethics

 Ethics – norms, principles, and standards of conduct governing individual and firm

behavior.

 Code of conduct (code of ethics) – written policies and standards for corporate

conduct and ethics

 What motivates firms to become ethical?

o Negative view – some firms follow the code of ethics under social pressure

and to appear more legitimate

o Positive view – firms may be self-motivated to do good regardless of social

pressure

o Instrumental view – good ethics may represent useful information to help

make good profits.

 Trustworthy reputation may gain a significant competitive advantage (attracting more

investors, customers, and employees).

 Managing ethics overseas- challenging (what is ethical in one country may be

unethical or illegal in other countries)

 Two perspectives on dealing with ethical dilemmas overseas (Donaldson):

o Ethical relativism – relative thinking that ethical standards vary significantly

around the world and that there are no universally agreed upon ethical and

unethical behaviors.
 o Ethical imperialism – imperialistic thinking that one’s own ethical standards

should be applied universally around the world

 Donaldson’s three guiding principles

 Respect for human dignity and basic rights – minimal ethical threshold

 Respect for local traditions – cultural sensitivity

 Respect for institutional context – careful understanding of local

institutions

Ethics and corruption

 Corruption – abuse of public power for private benefit usually in the form of bribery

 Causes misallocation of resources and slowing of economic development

 Corruption discourages foreign direct investment (FDI)

 A strategic response framework for ethical challenges

o Reactive - deny responsibility, do less than required

o Defensive – admit responsibility but fight it, do the least that is required

o Accommodative – admit responsibility, do all that is required

o Proactive – anticipate responsibility, do more than is required

Debates and extensions

1. Opportunism versus individualism/collectivism

o Attempts to combat opportunism may beget opportunism

o Opportunists are a minority in any population

o Individualism/collectivism may hold the key to an improved understanding of

opportunism.

2. Cultural distance versus institutional distance

o Cultural distance – difference between two cultures along some identifiable

dimensions
 o Institutional distance – extent of similarity between the regulatory, normative,

and cognitive institutions of two countries

o Firms in general prefer working with culturally closer firms

3. Bad apples versus bad barrels

o Focuses on the root cause of unethical business behavior

o View I. – People may have ethical or unethical predispositions before joining a

firm.

o View II. – Many people commit unethical behavior, not because their bad

apples but because they are spoiled by bad barrels.

o An extension on nature versus nurture debate (Are we who we are because of

our genes (nature) or our environments (nurture)?- combination of both

Institution-based view answers to the four fundamental questions

o Why do firms differ? Institutional frameworks shape firm differences

o How do firms behave? Institutional differences

o What determines the scope of the firm? Development of formal institutional frameworks

o What determines the international success and failure of firms? Institutional frameworks

govern strategic choices

Porter’s value chain

What is the stakeholder value approach?

Stakeholder value involves creating the optimum level of return for all stakeholders in an

organization. This is a more broad-based concept than the more common shareholder value,

which usually focuses just on maximizing net profits or cash flows.

-liability of foreignness- the inherent disadvantage foreign firms experience in host countries

because of their normative status

- country of origin effect- the practice of marketers and consumers associating brands with

countries and making buying decisions made on the country of origin of the product

- PRPG and China/Germany situation (made in)

-categorization of the firms:

1. Enthusiastic internationalizer- large firm in a small domestic market; they can

quickly exhaust opportunities in a small country; Nestle in Switzerland

2. Follower internationalizer- small firm in a small domestic market; they often

follow their larger counterparts to go abroad as suppliers

3. Slow internationalizer- large firm in a large domestic market; their overseas

activities are often slower than those of enthusiastic internationalizers; Walmart and

Carefuour comparison

4. Occasional internationalizer- small firm in a large domestic market; difficulties

while internationalizing due to their poor resource base and the large size of their domestic

market; small firms in Brazil, China, Japan, Russia…