Quiz 1 Study Cards, Strategy Exam

Porter definition

A broad formula for how a business is going to compete, what it's goals should be, and what policies are necessary for carrying out those goals

Simple definition of strategy

A firm's theory about how to gain and sustain competitive advantage

Van den Steen 3 fold test of strategy

Guidance (C suite and middle managers), Specificity (Are you doing something different than rivals?), Conciseness (Is this really the smallest set of possible choices, 7-10, Can people remember it?)

Strategy exists to do what?

Help managers at all levels make decisions

When is strategy most important?

High degree of interaction across decisions, Irreversibility, Conditions of uncertainty or ambiguity

Big Question 2

How do you identify and measure sources of competitive (dis)advantage?

base your strategy on things that won't change

Jeff Bezos advice on strategy is to?

A firm's theory about how to gain and sustain competitive advantage.

Simple definition of strategy

Collective strength of five forces

The most extreme case of a "competitively unattractive" industry occurs when all five forces are producing strong competitive pressures: Rivalry among sellers is vigorous, low entry barriers allow new rivals to gain a market foothold, competition from substitutes is intense, and both suppliers and buyers are able to exercise considerable leverage.

Van den Steen definition

The smallest set of choices to optimally guide (or force) other choices (towards sustained superior performance).

Rivalry among Competing Sellers:

The strongest of the five competitive forces is often the rivalry for buyer patronage among competing sellers of a product or service. The intensity of rivalry among competing sellers within an industry depends on a number of identifiable factors

a lack of consistency

The telltale sign of a lack of strategy is

Strategy is Challenging

Tools: Frameworks, Perspectives, and Theories

Create more economic value than rival firms.

What is competitive advantage?

The term applies in competitive settings where strategy is often about forcing competitors to take certain actions that are in the companies best interests.

Why is "or force" part of the definition of strategy?

Buyers

Whether buyers are able to exert strong competitive pressures on industry members depends on (1) the degree to which buyers have bargaining power and (2) the extent to which buyers are price-sensitive.

Suppliers

Whether the suppliers of industry members represent a weak or strong competitive force depends on the degree to which suppliers have sufficient bargaining power to influence the terms and conditions of supply in their favor

Focus on operational effectiveness seductive- concrete and actionable. Growth trap: Shareholders demand growth, yet this leads to increased pressure to ignore trade-offs e.g. Maytag, Neutrogena

Why do managers get it wrong?

Rapid Diffusion, More firms imitate best practices the more they look alike, who actually captures gains from constant operational effectiveness (customers, suppliers, e.g. commercial printing)

Why operational is effectiveness not enough?

Competitive pressures from substitutes are weaker when:

• Good substitutes are not readily available or attractively priced. • Substitutes' performance features are not comparable or better. • Buyers have high costs in switching to substitutes.

Potential New Entrants

"New entrants to a market bring new production capacity, the desire to establish a secure place in the market, and sometimes substantial resources.

Weapons for competing with rivals:

-Price discounting, clearance sales -Couponing, advertising items on sale -Advertising product or service characteristics, using ads to enhance a company's image -Innovating to improve product performance and quality -Introducing new or improved features, increasing the number of styles to provide greater product selection -Increasing customization of product or service -Building a bigger, better dealer network -Improving warranties, offering low-interest financing

Distinguish among the 5 competitive forces and explain how they drive industry profitability in the medium- and long-run (LOS a.)

1. Threat of Entry • Barriers to entry (sources): - supply-side economies of scale - demand-side economies of scale - customer switching costs - capital requirements - incumbency advantages independent of size - unequal access to distribution channels - restrictive government policy • Expected retaliation (newcomers fear if): - incumbents have previously responded vigorously to new entrants - incumbents possess substantial resources to fight back (excess cash, unused borrowing power, available productive capacity, clout with distribution channels and customers) - incumbents seem likely to cut prices because they are committed to retaining market share at all costs or because the industry has high Fixed costs, which create a strong motivation to drop prices to fill excess capacity - industry growth is slow so newcomers can gain volume only by taking it from incumbents 2. The Power of Suppliers (supplier is powerful if): • It's more concentrated than the industry it sells to • The supplier group doesn't depend heavily on the industry for its revenues. If an industry accounts for large portion of a supplier group's volume/profit, suppliers will want want to protect the industry via reasonable pricing and assist in R&D and lobbying • Industry participants face switching costs in changing suppliers or have invested heavily in specialized ancillary equipment or in learning how to operate a supplier's equipment. Or firms have located their production lines near to supplier • Supplier offer products that are differentiated • There are no substitute for what the supplier provides • The supplier group can credibly threaten to integrate forward into the industry 3. The Power of Buyers • Customer group has negotiating leverage if: - The are few buyers, or each one purchases in volumes that are large relative to the size of single vendor. Large-volume buyers are particularly powerful in industries with high FC. High FC and low marginal costs amplify the pressure on rivals to keep capacity filled through discounting - The industry's products are standardized or undifferentiated. If buyers believe they can always find an equivalent products, they tend to play one vendor against another - Buyers face few switching costs in changing vendors - Buyers can credibly threaten to integrate backward and produce the industry's products themselves if vendors are too profitable • A buyer group is price sensitive if: - The products it purchased from the industry represents significant fraction of its cost structure or procurement budget - The buyer group earns low profits, is strapped for cash, or is otherwise under pressure to trim its purchasing costs - The quality of buyers' products/services is little affected by the industry's product - The industry's product has little effect on the buyer's other costs. Conversely, when product/service can pay for itself many times over by improving performance or reducing labor, material or other costs, buyers are usually more interested in quality than in price 4. The Threat of Substitutes: • Threat of substitute is high if: - It offers an attractive price-performance trade-off to the industry's product. The better the relative value of the substitute, the tighter is the lid on an industry's profit potential - The buyer's cost of switching to the substitute is low 6. Rivalry among Existing Competitors: • The intensity of rivalry is greatest if: - Competitors are numerous or are roughly equal in size and power. Rivals find it hard to avoid poaching business. Without industry leader, practices desirable for the industry as a whole go unenforced. - Industry growth is slow. Slow growth precipitates fights for market share - Exit barriers are high because of highly specialized assets or management's devotion to a particular business and keeps companies in the market even if earnings are low or -ve. Excess capacity remains in use, and the profitability of healthy competitors suffers as the sick ones hang on - Rivals are highly committed to the business and have aspirations for leadership, especially if they have goals that go beyond economic performance in the particular industry - Firms cannot read each other's signals well because of lack of familiarity with one another, diverse approaches to competing, or differing goals • Price competition is most liable to occur if: - Products/services of rivals are nearly identical and there are few switching costs for the buyer. This encourages competitors to cut prices to win new customers - Fixed costs are high and marginal costs are low. This creates intense pressure for competitors to cut prices below their average costs, even close to their marginal costs, to steal incremental customers while still making some contributions to covering FCs. - Capacity must be expanded in large increments to be efficient. Their need for large capacity expansions, as in the polyvinyl chloride business, disrupts the industry's supply-demand balance and often leads to long and recurring periods of overcapacity and price cutting - The product is perishable. Perishability creates a strong temptation to cut prices and sell product while it still has value

Guidance: think about both C-suite and mid-level managers. Specificity: Are you doing something different than rivals? Conciseness: Is it really the smallest set of choices? No more than 7-10 choices. Can people remember it?

3 fold test of strategy.

Scope, Value Proposition, and Cost

3 positioning elements of strategy

Interdependencies: Choices made by different groups interact with one another. Alignment: Decisions should align with firm goals. Cascade Effect Efficiency/Consistency: Decisions can be made quickly. Is this decision consistent with our strategy?

3 things that make a strategy.

Entry threats are stronger when:

• Entry barriers are low • Industry members are unwilling or unable to strongly contest the entry of newcomers • There is a large pool of potential entrants, some of which have the capabilities to overcome high entry barriers • Existing industry members are looking to expand their market reach by entering product segments or geographic areas where they do not have a presence • Buyer demand is growing rapidly and newcomers can expect to earn attractive profits without inviting a strong reaction from incumbents

Competitive pressures from substitutes are stronger when:

• Good substitutes are readily available and attractively priced. • Substitutes have comparable or better performance features. • Buyers have low costs in switching to substitutes.

Performing different activities from rivals' or performing similar activities in different ways.

Porter says strategic positioning means?

1. Bargaining Power of Buyers 2. Bargaining Power of Suppliers 3. Threat of New Entrants 4. Threat of Substitute Products 5. Competitive rivalry within the industry

Porter's 5 forces

A broad formula for how a business is going to compete, what its goals should be, and what policies will be needed to carry out those goals.

Porter's Definition

"Supplier bargaining power is stronger when:

• Supplier products/services are in short supply (which gives suppliers leverage in setting prices) • Supplier products/services are differentiated • Industry members incur high costs in switching their purchases to alternative suppliers • The supplier industry is more concentrated than the industry it sells to and is dominated by a few large companies • Suppliers products/services account for a small percentage of industry members' costs • Industry members can't integrate backward and self-supply • There are no good substitutes for what the suppliers provide • Suppliers are not dependent on the industry for a large portion of their revenues

"Buyer bargaining power is weaker when:

• There is a shortage of industry goods relative to buyer demand • Sellers products are differentiated • Buyer costs of switching to competing products are high • Buyers are small and numerous relative to sellers • Buyers information regarding sellers is limited in quantity and quality • Buyers cannot credibly threaten to integrate backward • Buyers cannot easily postpose purchases • Buyers are not very price-sensitive (high profits or income; small part of cost structure or total purchases; product performance really matters)

Supplier bargaining power is weaker when:

• There is a surge in the availability of supplies • The item being supplied is a "commodity" • Industry members' switching costs to alternative suppliers are low • Industry members account for a big fraction of suppliers' sales • The number of suppliers is large relative to the number of industry members and there are no suppliers with large market shares • Suppliers' products accounts for a large fraction of industry costs • Industry members have the potential to integrate backward • Good substitutes for supplier products/services exist • Industry members are major customers of suppliers

overlap

Strategic decisions ideally also have minimum?

False. Strategy not about fixing everything in advance.

Strategy is about fixing everything in advance?

False.

Strategy means operational effectiveness?

- Key (strategic) assets - Distinctive functional and system choices - Scale

The 3 business system elements

Chandler definition

The determination of the basic long term goals and objectives of an enterprise and the allocation of resources necessary for carrying out these goals

substitute

United and Delta are rivals but Amtrak (train) is a ____.

When an industry with a reputation for difficult economics meets a manager with a reputation for excellence it is usually the industry that keeps its reputation intact.

Warren Buffets quote on industry or firm effects.

Focus on growth in profitability, not overall growth. Deepen firm's strategic position. Maintain operational effectiveness, but don't rely on it. Resist constant pressure to compromise, relax trade-offs, imitate rivals. Be wary of wholesale strategic change. Remember Carmike?

What can managers do?

Tesla's Gigafactory Ex Ante: based on forecasts rather than actual results. Ex Post: based on actual results rather than forecasts.

What is Ex Ante Uncertain but with clear ex post implications

The smallest set of choices to optimally guide (or force) other choices (towards sustained superior performance).

What is Van Den Steen's definition of strategy?

Walmart choice to be low cost not choice to use CFL lamps

What is a central and high level choice

A business level strategy intended to: increase the perceived value of the firm's products compared to competitor's products. Focus on increasing willingness to pay Successful differentiators depend on MARGIN

What is product differentiation?

Sears announces investing in stores, then sells key brands Apple's user-friendly, proprietary, sleek designs.

What is reliable and persistent?

For example, to maintain scale through aggressive defense of market share. GE had as part of their strategy that each division should be number 1 or 2 in its industry.

What is scale

How large will our firm be? What will we vertically integrate? What do we outsource?

What is scale?

Which customers, which products, which geographic markets? What assets do we need to serve these markets?

What is scope?

Big Question 1

What is your working definition of strategy? Can you readily apply it?

1. Central and High Level Choice 2. Ex Ante Uncertain But With Clear Ex Post Implications 3. Reliable and Persistent

What makes a decision strategic?

Large market size Price most important criteria (Customers are price-sensitive) Product is standardized Successful firms rely on VOLUME.

When does low-cost strategy work?

High degree of interaction across decisions Irreversibility (Ghemawat's work on commitment) Conditions of uncertainty or ambiguity You will discover this first-hand in the simulation

When is Strategy most important

accumulate

Consistency ensures that the value of activities ______ rather than erode or worse- cancel each other out.

Big Question 4

Can you identify viable growth options?

True

Investments in capabilities and resources can combat problems of uncertainty?

Big Question 3

Can firms pursue efficiency and high quality simultaneously and still outperform rivals?

What makes a decision strategic

Central and high level choice (Walmart low cost), Ex ante uncertainty with clear ex post implications (Tesla gigafactory), Reliable and persistent (Apple design)

The determination of the basic long term goals and objectives of an enterprise and the adoption of courses of action and the allocation of resources necessary for carrying out these goals.

Chandler's Definition

Firms in Other Industries Offering Substitute Products

Companies in one industry are vulnerable to competitive pressure from the actions of companies in a closely adjoining industry whenever buyers view the products of the two industries as good substitutes.

competitive advantage

Creating more economic value than rival firms

Carmike, now the largest theater chain in the United States, owes its rapid growth to its disciplined concentration on small markets.

How is Carmike so successful

Where? Scope Considerations. How? Scale Considerations

Elements of strategy

Cost leadership Differentiation Focus

Generic Strategies

"Entry threats are weaker when:

• Entry barriers are high since incumbents enjoy: − Cost advantages due to economies of scale, experience, low fixed cost, or access to lower cost inputs, technology, or location − Strong product differentiation and brand loyalty − Strong network effects − High capital requirements − Preferential access to distribution channels − Restrictive government policies • Industry members are willing and able to contest new entry • Industry outlook is risky and uncertain, discouraging entry

Rivalry is weakest when:

• Buyer demand is growing rapidly • Buyer costs to switch brands are high • The products of rival sellers are strongly differentiated and customer loyalty is high • Fixed and storage costs are low • Sales are concentrated among a few large sellers • Rivals are similar in size, strength, objectives, strategy, and country of origin • Exit barriers are low

Rivalry is strong when:

• Buyer demand is growing slowly or declining • Buyer costs to switch brands are low • The products of industry members are commodities or else weakly differentiated • The firms in the industry have high fixed costs or high storage costs • Competitors are numerous or are of roughly equal size and competitive strength • Rivals have diverse objectives, strategies, and/or countries of origin • Rivals face high exit barriers

"Buyer bargaining power is stronger when:

• Buyer demand is weak in relation to industry supply • The industry's products are standardized or undifferentiated • Buyer costs of switching to competing products are low • Buyers are large and few in number relative to the number of industry sellers • Buyers are well informed about the quality, prices, and costs of sellers • Buyers have the ability to integrate backward into the business of sellers • Buyers have the ability to postpone purchases • Buyers are price-sensitive − Buyers earn low profits or low income − The product represents a significant fraction of their purchases − Product performance is not a critical consideration

Describe why industry growth rate, technology and innovation, government, and complementary products and services are fleeting factors rather than forces shaping industry structure (LOS b.)

• Industry growth rate: a common mistake is to assume that fast-growing industries are always attractive. Growth does tend to mute rivalry. But fast growth can put suppliers in a powerful position, and high growth with low entry barriers will draw in entrants and will not guarantee profitability if customers are powerful or substitutes are attractive. • Technology and Innovation: advanced technology or innovation are not by themselves enough to make an industry structurally attractive (or unattractive). Mundane, low-technology industries with price-insensitive buyers, high switching costs, or high entry barriers arising from scale economies are often far more profitable than sexy industries, such as software and internet technologies that attract competitors. • Government: government involvement is neither inherently good nor bad for industry profitability. The best way to understand influence of government on competition is to analyze how specific government policies affect the five forces. E.g. Patents > high barriers to entry and profit potential, Unions > high supplier power and low profit potential, and bankruptcy > excess capacity and intense rivalry • Complementary Products/Services: are important when they affect the overall demand for an industry's products. Complements affect profitability through the way they influence the 5 forces. The strategist must trace the positive or negative influence of complements on all 5 forces to ascertain their impact on profitability.

Explain how positioning a company, exploiting industry change and shaping industry structure may be used to achieve a competitive advantage (LS d.)

• Positioning the Company: strategy can be viewed as building defenses against the competitive forces or finding a position in the industry where the forces are weakest. (Example Paccar). In addition to revealing positioning opportunities within an existing industry, the 5 forces framework allows companies to rigorously analyze entry/exit. Both depend on answering the difficult question: "What is the potential of this business?" In considering entry into a new industry with good future before this good future is reflected in the prices of acquisition candidates. The 5 forces analysis may also reveal industries that aren't necessarily attractive for average entrant but in which a company has good reason to believe it can surmount entry barriers at lower cost than most firms or has unique ability to cope with industry's competitive forces. • Exploiting Industry Change: industry ∆s bring opportunity to spot and claim promising new strategic positions if the strategist has sophisticated understanding of the competitive forces and their underpinnings. (Example Apple's iTunes). When industry structure is in flux, new and promising positions may appear. Structural ∆s open up new needs and new ways to serve existing needs. Established leaders may overlook these or be constrained by past strategies from pursuing them. Smaller competitors in the industry can capitalize on such ∆s or the void may well be filled by new entrants. • Shaping Industry Structure: when a company exploits structural changes, it's recognizing, and reacting to, the inevitable. However, companies also have the ability to shape industry structure. A firm can lead its industry toward new ways of competing that alter the 5 forces for the better. In reshaping structure, a company wants its competitors to follow so that the entire industry will be transformed. While many industry participants may benefit in the process, the innovator can benefit most if it can shift competition in directions where it can excel. Two ways to reshape industry's structure: 1) redividing profitability in favor of incumbents. Redividing the industry pie aims to ↑ the share of profits in industry competitors instead of to suppliers, buyers, substitutes, and keeping out potential entrants. To capture more profit, the starting point is to determine which force(s) are currently constraining profitability. A company can potentially influence all of the forces. The strategist's goal is to reduce the share of profits that leak to suppliers, buyers, substitutes, and new entrants detersion costs. (Good example Sysco)(Bad example IBM) 2) expanding the overall profit pool. Expanding the profit pool involves ↑ing the overall pool of economic value generated by the industry in which rivals, buyers, and suppliers can all share. When overall demand grows, the industry's quality level rises intrinsic costs are reduced, or waste is eliminated, the pie expands. Expanding the overall profit pool creates win-win opportunities for multiple industry participants. It can also reduce the risk of destructive rivalry that arises when incumbents attempt to shift bargaining power to capture more market share. However, expanding the pice doesn't reduce the importance of industry structure. How the expanded pie is divided will ultimately be determined by the 5 forces. • Defining the Industry: the 5 forces also hold the key to defining the relevant industry(ies) in which a company competes. Drawing industry boundaries correctly, around the area in which competition actually takes place, will clarify the causes of profitability and the appropriate unit for setting strategy. A company needs a separate strategy for each distinct industry. Mistakes in industry definition made by competitors present opportunities for staking out superior strategic positions.

Signs that Competition from Substitutes Is Strong

• Sales of substitutes are growing faster than sales of the industry being analyzed. • Producers of substitutes are moving to add new capacity. • Profits of the producers of substitutes are on the rise.

Identify changes in industry structure and forecast their effects on the industry's profit potential (LOS c.)

• Shifting Threat of New Entry: changes to any of the 7 barriers can raise or lower the threat of new entry. E.g. expiration of patents invite new entrants. The oversaturation of ice cream makers, makes it difficult to access freezer space at grocery stores. Finally, the large fixed cost investments by retailers such as Wal-Mart including inventory control technologies and automation and POS terminals makes it more difficult for small retailers to enter. • Changing Supplier or Buyer Power: as the factors underlying the power of suppliers and buyers change with time, their clout rises and declines. In global appliance industry, major companies have been squeezed by consolidation of retail channels and the rise of big-box retailers like Best Buy and Home Depot. Another example is travel agents who saw lower commissions as a result of internet ticket sales • Shifting Threat of Substitution: the most common reason substitutes become more or less threatening overtime is that advances in technology create new substitutes or shift price-performance comparisons in one direction or the other. E.g. microwaves used to be large and priced >$2,000 but with technology advances, they became serious substitutes for ovens. Trends in the availability or performance of complementary producers also shift the threat of substitutes. • New Bases of Rivalry: rivalry often intensifies naturally over time. As an industry matures, growth slows. Competitors become more alike as industry conventions emerge, technology diffuses, and consumer tastes converge. Industry profitability falls, and weaker competitors are driven out. This story has played out in industry after industry. A trend toward intensifying price competition and other forms of rivalry, however, is by no means inevitable. The nature of rivalry in an industry is altered by mergers and acquisitions that introduce new capabilities and ways of competing. Or, technological innovation can reshape rivalry. In some industries, companies turn to M&A not to improve cost and quality but to attempt to stop intense competition. Eliminating rivals is a risky strategy, however. The 5 forces tell us that a profit windfall from removing today's competitors often attracts new competitors and backlash from customers and suppliers.