strategic mgt ch 5,6,8

8

CORPORATE STRATEGY: DIVERSIFICATION AND THE MULTIBUSINESS COMPANY CHAPTER SUMMARY Chapter 8 moves up one level in the strategy-making hierarchy, from strategy making in a single business enterprise to strategy making in a diversified enterprise. The chapter begins with a description of the various paths through which a company can become diversified and provides an explanation of how a company can use diversification to create or compound competitive advantage for its business units. The chapter also examines the techniques and procedures for assessing the strategic attractiveness of a diversified company's business portfolio and surveys the strategic options open to already-diversified companies. LECTURE OUTLINE I. Introduction 1. In most diversified companies, corporate level executives delegate considerable strategy-making authority to the heads of each business, usually giving them the latitude to craft a business strategy suited to their particular industry and competitive circumstances and holding them accountable for producing good results. However, the task of crafting a diversified company's overall or corporate strategy falls squarely on the shoulders of top-level corporate executives. 2. Devising a corporate strategy has four distinct facets: a. Picking new industries to enter and deciding on the means of entry b. Pursuing opportunities to leverage cross-business value chain relationships and strategic fits into competitive advantage c. Establishing investment priorities and steering corporate resources into the most attractive business units. d. Initiating actions to boost the combined performances of the corporation's collection of businesses. II. When to Diversify 1. Diversifying into new industries always merits strong consideration whenever a single-business company encounters diminishing market opportunities and stagnating sales in its principle business. 2. There are four other instances in which a company becomes a prime candidate for diversifying: a. When it spots opportunities for expanding into industries whose technologies and products complement its present business. b. When it can leverage existing competencies and capabilities by expanding into businesses where these same resource strengths are key success factors and valuable competitive assets. c. When diversifying into additional business opens new avenues for reducing costs or the transfer of competitively valuable resources and capabilities. d. When it has a powerful and well-known brand name that can be transferred to the products of other businesses and thereby used as a lever for driving up the sales and profits of such a business. III. Building Shareholder Value: The Ultimate Justification for Diversifying 1. Diversification must do more for a company than simply spread its risk across various industries. 2. For there to be reasonable expectations that a diversification move can produce added value for shareholders, the move must pass three tests: a. The industry attractiveness test - The industry chosen for diversification must be attractive enough to yield consistently good returns on investment. b. The cost of entry test - The cost to enter the target industry must not be so high as to erode the potential for profitability. c. The better-off test - Diversifying into a new business must offer potential for the company's existing businesses and the new business to perform better together under a single corporate umbrella than they would perform operating as independent stand-alone businesses. 3. Diversification moves that satisfy all three tests have the greatest potential to grow shareholder value over the long term. Diversification moves that can pass only one or two tests are suspect. CORE CONCEPT Creating added value for shareholders via diversification requires building a multibusiness company where the whole is greater than the sum of its parts - an outcome known as synergy. IV. Strategies for Entering New Businesses 1. Entry into new businesses can take any of three forms: a. Acquisition b. Internal start-up c. Joint ventures/strategic partnerships A. Acquisition of an Existing Business 1. Acquisition is the most popular means of diversifying into another industry. 2. The big dilemma an acquisition-minded firm faces is whether to pay a premium price for a successful firm or to buy a struggling company at a bargain price. CORE CONCEPT An acquisition premium is the amount by which the price offered exceeds the pre-acquisition market value of the target company. B. Internal Development 1. Achieving diversification through internal development involves building a new business subsidiary from scratch and is often referred to as corporate venturing. CORE CONCEPT Corporate venturing is the process of developing new businesses as an outgrowth of a company's established business operations. It is also referred to as corporate entrepreneurship or intrapreneurship since it requires entrepreneurial like qualities within a larger enterprise. 2. This entry option takes longer than the acquisition option and poses some hurdles. 3. Generally, using internal development to enter a new business has appeal only when: a. The parent company already has in-house most or all of the skills and resources it needs to piece together a new business and compete effectively b. There is ample time to launch the business c. Internal entry has lower entry costs than entry via acquisition d. The targeted industry is populated with many relatively small firms such that the new start-up does not have to compete head-to-head against larger, more powerful rivals e. Adding new production capacity will not adversely impact the supply-demand balance in the industry f. Incumbent firms are likely to be slow or ineffective in responding to a new entrant's efforts to crack the market C. Joint Ventures 1. Joint ventures typically entail forming a new corporate entity owned by the partners. 2. A strategic partnership or joint venture can be useful in at least three types of situations: a. To pursue an opportunity that is too complex, uneconomical, or risky for a single organization to pursue alone b. When the opportunities in a new industry require a broader range of competencies and know-how than any one organization can marshal c. To diversify into a new industry when the diversification move entails having operations in a foreign country 3. However, partnering with another company has significant drawbacks due to the potential for conflicting objectives, disagreements, over how to best operate the venture, culture clashes, and so on. 4. Joint ventures are generally the least durable of the entry options, usually lasting only until the partners decide to go their own ways. D. Choosing a Mode of Entry 1. The choice of entry mode depends on the answer to four important questions: a. Does the company have all the resources and capabilities it requires to enter the business through internal development or is it lacking some critical resources? b. Are there entry barriers to overcome? c. Is speed an important factor in the firm's chances for successful entry? d. Which is the least costly mode of entry given the company's objectives? CORE CONCEPT Transaction costs are the costs of completing a business agreement or deal of some sort, over and above the price of the deal. They can include the costs of searching for an attractive target, the costs of evaluating its worth, bargaining costs, and the costs of completing the transaction. V. Choosing the Diversification Path: Related Versus Unrelated Businesses A. Once the decision is made to pursue diversification, the firm must choose whether to diversify into related businesses, unrelated businesses, or some mix of both. Businesses are said to be related when their value chains possess competitively valuable cross-business value chain matchups or strategic fits. Businesses are said to be related when their value chains possess competitively valuable cross-business relationships that present opportunities for the businesses to perform better under the same corporate umbrella than they could by operating as stand-alone entities. CORE CONCEPTS Related businesses possess competitively valuable cross-business value chain and resource matchups; unrelated businesses have very dissimilar value chains and resource requirements, with no competitively important cross-business relationships at the value chain level. VI. Strategic Fit and Diversification into Related Businesses A. A related diversification strategy involves building the company around businesses whose value chains possess competitively valuable strategic fits. 1. Figure 8.1, Related Businesses Possess Related Value Chain Activities and Competitively Valuable Strategic Fits, looks at related businesses and strategic fits. 2. Strategic fit exists whenever one or more activities comprising the value chains of different businesses are sufficiently similar as to present opportunities for: a. Transferring specialized expertise, technological know-how, or other competitively valuable capabilities from one business to another b. Combining the related activities of separate businesses into a single operation to achieve lower costs c. Exploiting common use of a well known brand name that connotes excellence in a certain type of product range. d. Sharing other resources that support corresponding value chain activities of the businesses, such as relationships with suppliers or a dealer network. e. Engaging in cross-business collaboration and knowledge sharing to create new competitively valuable resource strengths and capabilities CORE CONCEPT Strategic fit exists when the value chains of different businesses present opportunities for cross-business resource transfer, lower costs through combining the performance of related value chain activities, cross-business use of a potent brand name, and cross-business collaboration to build new or stronger competitive capabilities. 3. Related diversification thus has strategic appeal from several angles. It allows a firm to reap the competitive advantage benefits of skills transfer, lower costs, common brand names, and/or stronger competitive capabilities and still spread investor risks over a broad business base. CORE CONCEPT Related diversification involves sharing or transferring specialized resources and capabilities. Specialized resources and capabilities have very specific application and their use is limited to a restricted range of industry and business types, in contrast to generalized resources and capabilities that can be widely applied and can be deployed across a broad range of industry and business type. B. Identifying Cross-Business Strategic Fits Along the Value Chain 1. Cross-business strategic fits can exist anywhere along the value chain - in R&D and technology activities, in supply chain activities and relationships with suppliers, in manufacturing, in sales and marketing, in distribution activities, or in administrative support activities. 2. Strategic Fits in Supply Chain Activities: Businesses that have supply chain strategic fits can perform better together because of the potential for skills transfer in procuring materials, greater bargaining power in negotiating with common suppliers, the benefits of added collaboration with common supply chain partners, and/or added leverage with shippers in securing volume discounts on incoming parts and components. 3. Strategic Fits in R&D and Technology Activities: Diversifying into businesses where there is potential for sharing common technology, exploiting the full range of business opportunities associated with a particular technology and its derivatives, or transferring technological know-how from one business to another has considerable appeal. 4. Manufacturing-Related Strategic Fits: Cross-business strategic fits in manufacturing-related activities can represent an important source of competitive advantage in situations where a diversifier's expertise in quality manufacture and cost-efficient production methods can be transferred to another business. 5. Distribution-Related Strategic Fits: Businesses with closely related distribution activities can perform better together than apart because of potential cost savings in sharing the same distribution facilities or using many of the same wholesale distributors and retail dealers to access customers. 6. Strategic Fits in Sales and Marketing: Various cost-saving opportunities spring from diversifying into businesses with closely related sales and marketing activities. Opportunities include: a. Sales costs can be reduced by using a single sales force for the products of both businesses rather than having separate sales forces for each business b. After-sale service and repair organizations for the products of closely related businesses can often be consolidated into a single operation c. There may be competitively valuable opportunities to transfer selling, merchandising, advertising, and product differentiation skills from one business to another 7. Distribution-Related Strategic Fit: Businesses with closely related distribution activities can perform better together than they can independently due to the cost savings associated with sharing facilities, distributors, and retailers. 8. Strategic Fits in Customer Service Activities: Businesses can cut costs by consolidating after-sale service and repair organizations for closely related products. B. Strategic Fit, Economies of Scope, and Competitive Advantage 1. What makes related diversification an attractive strategy is the opportunity to convert the strategic fit relationships between the value chains of different businesses into a competitive advantage. 2. Economies of Scope: A Path to Competitive Advantage: One of the most important competitive advantages that a related diversification strategy can produce is lower costs than competitors. Related businesses often present opportunities to consolidate certain value chain activities or use common resources and thereby eliminate costs. Such cost savings are termed economies of scope a. Economies of scale are cost savings that accrue directly from a larger-sized operation. Economies of scope stem directly from cost-saving strategic fits along the value chains of related businesses. Most usually, economies of scope are the result of two or more businesses sharing technology, performing R&D together, using common manufacturing or distribution facilities, sharing a common sales force or distributor/dealer network, or using the same established brand name and/or sharing the same administrative infrastructure. b. The greater the economies associated with cost-saving strategic fits, the greater the potential for a related diversification strategy to yield a competitive advantage based on lower costs. CORE CONCEPT Economies of scope are cost reductions that flow from operating in multiple businesses, whereas economies of scale accrue from a larger-size operation. 3. From Competitive Advantage to Added Profitability and Gains in Shareholder Value: Armed with the competitive advantages that come from economies of scope and the capture of other strategic fit benefits. a. A company with a portfolio of related businesses is poised to achieve a 1+1=3 financial performance and the hoped for gains in shareholder value. b. Diversifying into related businesses where competitively valuable strategic fit benefits can be captured puts sister businesses in position to perform better financially as part of the same company than they could have performed as independent enterprises, thus providing a clear avenue for boosting shareholder value. VII. Diversification Into Unrelated Business A. Companies that pursue a strategy of unrelated diversification generally exhibit a willingness to diversify into any industry where there is potential for a company to realize consistently good financial results. 1. The basic premise of unrelated diversification is that any company that can be acquired on good financial terms and that has satisfactory earnings potential represents a good acquisition and a good business opportunity. Such companies are frequently labeled conglomerates. 2. The company spends much time and effort screening new acquisition candidates and deciding whether to keep or divest existing businesses, using such criteria as: a. Whether the business can meet corporate targets for profitability and return on investment b. Whether the business is an industry with attractive growth potential c. Whether the business is big enough to contribute significantly to the parent firm's bottom line d. Most importantly, whether the business passes the better-off test by growing profits as well as revenues. 3. Building Shareholder Value via Unrelated Diversification - In the absence of cross-business strategic fits by which to grow shareholder value, the company must look for unrelated avenues. There are three principle ways in which the parent company contributes to success of its unrelated businesses: a. Astute Corporate Parenting - The parent corporation must nurture its component businesses through top management expertise, expert problem solving, creative strategy suggestions, and first rate advise. b. Judicious Cross-Business Allocation of Financial Resources - The parent corporation can serve as an internal capital market and allocate surplus cash flows from some businesses to fund the capital requirements of others. c. Acquiring and Restructuring Undervalued Companies - The parent corporation can search out weak performing companies and purchase them at bargain prices, then restructuring their operations in ways that improve profitability. CORE CONCEPT Restructuring refers to overhauling and streamlining the activities of a business - combining plants with excess capacity, selling off underutilized assets, reducing unnecessary expenses, and otherwise improving the productivity and profitability of a company. 4. The Path to Greater Shareholder Value through Unrelated Diversification: Building shareholder value via unrelated diversification ultimately hinges on the business acumen of corporate executives. In more specific terms, this means that corporate level executives must: a. Do a superior job of diversifying into new businesses that can produce consistently good earnings and returns on investment b. Do an excellent job of negotiating favorable acquisition prices c. Do a superior job of corporate parenting. Those that are able to create more value in their businesses have what is called a parenting advantage. CORE CONCEPT A diversified company has a parenting advantage when it is more able than other companies to boost the combined performance of its individual businesses through high-level guidance, general oversight, and other corporate-level contributions. B. The Drawbacks of Unrelated Diversification 1. Unrelated diversification strategies have two important negatives that undercut the positives: a. Very demanding managerial requirements b. Limited competitive advantage potential 2. Demanding Managerial Requirements: Successfully managing a set of fundamentally different businesses operating in fundamentally different industry and competitive environments is a very challenging and exceptionally difficult proposition for corporate level managers. a. The greater the number of businesses a company is in and the more diverse those businesses are, the harder it is for corporate managers to: 1. Stay abreast of what is happening in each industry and each subsidiary and thus judge whether a particular business has bright prospects or is headed for trouble 2. Know enough about the issues and problems facing each subsidiary to pick business-unit heads having the requisite combination of managerial skills and know-how 3. Be able to tell the difference between those strategic proposals of business-unit managers that are prudent and those that are risky or unlikely to succeed 4. Know what to do if a business unit stumbles and its results suddenly head downhill b. As a rule, the more unrelated businesses that a company has diversified into, the more corporate executives are reduced to "managing by the numbers." 3. Limited Competitive Advantage: Unrelated diversification offers limited potential for competitive advantage beyond that of what each individual business can generate on its own. a. Relying solely on the expertise of corporate executives to wisely manage a set of unrelated businesses is a much weaker foundation for enhancing shareholder value than it a strategy of related diversification. b. Without the competitive advantage potential of strategic fits, consolidated performance of an unrelated group of businesses stands to be little or no better than the sum of what the individual business units could achieve if they were independent. C. Inadequate Reasons for Pursuing Unrelated Diversification 1. Rationales for unrelated diversification that are not likely to increase shareholder value include: a. Risk reduction - reducing perceived risk by spreading the company's investments over a set of truly diverse industries whose technologies and markets are largely disconnected. b. Growth - pursuing growth for the sake of growth. c. Stabilization - offsetting market downtrends in some businesses by upswings in others. d. Managerial Motives - unrelated diversification that results only in benefits to managers such as higher compensation and reduced employment risk.  VIII. Combination Related-Unrelated Diversification Strategies 1. There is nothing to preclude a company from diversifying into both related and unrelated businesses. 2. Indeed, in actual practice the business makeup of diversified companies varies considerably: a. Dominant-business enterprises - one major core business accounts for 50 to 80 percent of total revenues and a collection of small related or unrelated businesses accounts for the remainder b. Narrowly diversified - 2 to 5 related or unrelated businesses c. Broadly diversified - wide ranging collection of related businesses, unrelated businesses, or a mixture of both 3. Figure 8.2, Strategy Alternatives for a Company Pursuing Diversification, provides guidance on what strategy might be most effective in various situations. IX. Evaluating the Strategy of a Diversified Company A. The procedure for evaluating a diversified company's strategy and deciding how to improve the company's performance involves six steps: 1. Assessing industry attractiveness individually and as a group 2. Assessing competitive strength of each business-unit in its industry 3. Checking the competitive advantage potential of cross-business strategic fits 4. Checking for resources fit 5. Ranking the business units on the basis of performance and priority for resource allocation 6. Crafting new strategic moves to improve overall corporate performance B. Step 1: Evaluating Industry Attractiveness 1. A principal consideration in evaluating a diversified company's business makeup and the caliber of its strategy is the attractiveness of the industries in which it has business operations. Answers to several questions are required: a. Does each industry the company has diversified into represent a good business for the company to be in? b. Which of the company's industries are most attractive and which are least attractive? c. How appealing is the whole group of industries in which the company has invested? 2. Calculating Industry Attractiveness Scores for Each Industry into Which the Company Has Diversified: A simple and reliable analytical tool involves calculating quantitative industry attractiveness scores, which can then be used to gauge each industry's attractiveness, rank the industries from most to least attractive, and make judgments about the attractiveness of all the industries as a group. 3. Each factor should be given a weight (with all weights adding up to 1.0) and each industry should be ranked between 1 and 10 for each factor. Multiplying the rank by the weight provides the score for each factor for each industry. Table 8.1, Calculating Weighted Industry Attractiveness Scores, provides a sample calculation. The following measures of industry attractiveness are likely to come into play for most companies:  a. Social, political, regulatory, and environmental factors b. Seasonal and cyclical factors c. Industry uncertainty and business risk d. Market size and projected growth rate e. Industry profitability f. The intensity of competition g. Emerging opportunities and threats h. The presence of cross-industry strategic fits i. Resource requirements 4. Interpreting the Industry Attractiveness Scores: Industries with a score much below 5.0 probably do not pass the attractiveness test. For a diversified company to be a strong performer, a substantial portion of its revenues and profits must come from business units with relatively high attractiveness scores. 5. The Difficulties of Calculating Industry Attractiveness Scores a. There are two hurdles to calculating industry attractiveness scores. 1. One is deciding on appropriate weights for the industry attractiveness measure. 2. The second hurdle is gaining sufficient command for the industry to assign accurate and objective ratings b. Despite the hurdles, calculating industry attractiveness scores is a systematic and reasonably reliable method for ranking a diversified company's industries from most to least attractive. C. Step 2: Evaluating Business-Unit Competitive Strength 1. The second step in evaluating a diversified company is to appraise how strongly positioned each of its business units are in their respective industry. 2. Calculating Competitive Strength Scores for Each Business Unit: Quantitative measures of each business unit's competitive strength can be calculated using a procedure similar to that for measuring industry attractiveness by looking at factors that impact competitiveness. 3. Each factor should be given a weight (with all weights adding up to 1.0) and each industry should be ranked between 1 and 10 for each factor. Multiplying the rank by the weight provides the score for each factor for each industry. Table 8.2, Calculating Weighted Competitive Strength Scores for a Diversified Company's Business Units, provides a sample calculation. The following measures of competitive strength are likely to come into play for most companies: a. Relative market share b. Costs relative to competitors' costs c. Ability to match or beat rivals on key product attributes d Brand image and reputation e. Other competitively valuable resources and capabilities f. Ability to benefit from strategic fits with sister businesses  g. Ability to exercise bargaining leverage with key suppliers or customers h. Caliber of alliances and collaborative partnerships with suppliers and/or buyers i. Profitability relative to competitors 4. Interpreting the Competitive Strength Scores: Business units with competitive strength ratings above 6.7 on a rating scale of 1 to 10 are strong market contenders in their industries. 5. Using a Nine-Cell Matrix to Simultaneously Portray Industry Attractiveness and Competitive Strength: The industry attractiveness and business strength scores can be used to portray the strategic positions of each business in a diversified company. Industry attractiveness is plotted on the vertical axis and competitive strength on the horizontal axis. a. A nine-cell grid emerges from dividing the vertical axis into three regions and the horizontal axis into three regions. Figure 8.3, A Nine-Cell Industry Attractiveness-Competitive Strength Matrix, depicts this tool. Each business unit is plotted on the nine-cell matrix according to its overall attractiveness score and strength score and then shown as a "bubble." b. The location of the business units on the attractiveness-strength matrix provides valuable guidance in deploying corporate resources to the various business units. c. In general, a diversified company's prospects for good overall performance are enhanced by concentrating corporate resources and strategic attention on those business units having the greatest competitive strength and positioned in highly attractive industries. 6. The nine-cell attractiveness-strength matrix provides clear, strong logic for why a diversified company needs to consider both the industry attractiveness and business strength in allocating resources and investment capital to its different businesses. D. Step 3: Checking the Competitive Advantage Potential of Cross-Business Strategic Fits 1. Checking the competitive advantage potential of cross-business strategic fits involves searching and evaluating how much benefit a diversified company can gain from four types of value chain matchups: a. Opportunities to combine the performance of certain activities thereby reducing costs b. Opportunities to transfer skills, technology, or intellectual capital from one business to another c. Opportunities to share the use of a well-respected brand name d. Opportunities for sister businesses to collaborate in creating valuable new competitive capabilities CORE CONCEPT Sister businesses possess resource fit when they add to a company's overall resource strengths and when a company has adequate resources to support their requirements.. 2. Figure 8.4, Identifying the Competitive Advantage Potential of Cross-Business Strategic Fits, illustrates the process of searching for competitively valuable cross-business strategic-fits and value chain matchups. 3. More than just strategic fit identification is needed. The real test is what competitive value can be generated from these fits.  E. Step 4: Checking for Resource Fit 1. The businesses in a diversified company's lineup need to exhibit good resource fit. CORE CONCEPT A diversified company exhibits resource fit when its business add to a company's overall resource strengths and have matching resource requirements and/or when the parent company has adequate corporate resources to support its businesses' needs and add value. 2. Resource fit exists when: a. Businesses add to a company's resource strengths, either financially or strategically b. A company has the resources to adequately support its businesses as a group without spreading itself too thin 3. Financial Resource Fits: A diversified company must generate sufficient cash flows to fund the capital requirements of it business while remaining financially healthy. As discussed previously, a diversified firm must have a healthy internal capital market. A portfolio approach to managing the diversified firm focuses on two general categories of businesses, cash hogs and cash cows. CORE CONCEPT A strong internal capital market allows a diversified company to add value by shifting capital from business units generating free cash flow to those needing additional capital to expand and realize their growth potential. a. Business units in rapidly growing industries are often cash hogs—the annual cash flows they are able to generate from internal operations are not big enough to fund their expansion. b. Business units with leading market positions in mature industries may be cash cows—businesses that generate substantial cash surpluses over what is needed for capital reinvestment and competitive maneuvers to sustain their present market position. CORE CONCEPT A cash hog business generates cash flows that are too small to fully fund its operations and growth; a cash hog requires cash infusion to provide additional working capital and finance new capital investment. CORE CONCEPT A cash cow generates cash flows over and above its internal requirements, thus providing a corporate parent with funds for investing in cash hogs, financing new acquisitions, or paying dividends. 4. Viewing the diversified group of businesses as a collection of cash flows and cash requirements is a major step forward in understanding what the financial ramifications of diversification are and why having businesses with good financial resource fit is so important. 5. Star businesses have strong or market-leading competitive positions in attractive, high-growth markets and high levels of profitability and are often the cash cows of the future. F. Other Tests of Resource Fit. 1. Does the company have adequate financial strength to fund its different businesses and maintain a healthy credit? 2. Do any of the company's individual businesses not contribute adequately to achieving companywide performance targets? 3. Does the company have (or can it develop) the specific resource strengths and competitive capabilities needed to be successful in each of its businesses? 4. Are the company's resources being stretched too thinly by the resource requirements of one or more of its businesses? G. Step 5: Ranking the Performance Prospects of Business Unites and Assigning a Priority for Resource Allocation 1. Once a diversified company's strategy has been evaluated from the perspectives of industry attractiveness, competitive strength, strategic fit, and resource fit, the next step is to rank the performance prospects of the businesses from best to worst and determine which businesses merit top priority for new investments by the corporate parent. 2. The most important considerations in judging business-unit performance are sales growth, profit growth, contribution to company's earnings, and the return on capital. 3. The industry attractiveness/business strength evaluations provide a basis for judging a business's prospects. It is a short step from ranking the prospects of business units to drawing conclusions about whether the company as a whole is capable of strong, mediocre, or weak performance. 4. The rankings of future performance generally determine what priority the corporate parent should give to each business in terms of resource allocation. 5. Business subsidiaries with the brightest profit and growth prospects and solid strategic and resource fits generally should head the list for corporate resource support. 6. Figure 8.5, The Chief Strategic and Financial Options for Allocating a Diversified Company's Financial Resources, shows the chief strategic and financial options for allocating a diversified company's financial resources.  H. Step 6: Crafting New Strategic Moves to Improve Overall Corporate Performance 1. The diagnosis and conclusions flowing from the five preceding analytical steps set the agenda for crafting strategic moves to improve a diversified company's overall performance. The strategic options boil down to four broad categories of actions: (pictured in Figure 8.6, A Company's Four Main Strategic Alternatives after it Diversifies) a. Sticking closely with the existing business lineup and pursuing the opportunities it presents b. Broadening the company's diversification base by making new acquisitions in new industries c. Divesting certain businesses and retrenching to a narrower diversification base d. Restructuring the company's business lineup and putting a whole new face on the company's business makeup 2. Sticking Closely with the Existing Business Lineup makes sense when the company's present businesses offer attractive growth opportunities and can be counted on to generate good earnings and cash flow. a. In the event that corporate executives are not entirely satisfied with the opportunities they see in the company's present set of businesses and conclude that changes in the company's direction and business makeup are in order, they can opt for any of the four strategic alternatives listed above. 3 Broadening a Diversified Company's Business Base—Motivating factors to build positions in new industries a. Sluggish growth the makes the potential revenue and profit boost of a newly acquired business look attractive b. Vulnerability to seasonal or recessionary influences or to threats from emerging new technologies c. The potential for transferring resources and capabilities to other related or complementary businesses d. Rapidly changing conditions in one or more of a company's core businesses brought on by technological, legislative or new product innovations e. To complement and strengthen the market position and competitive capabilities of one or more of its present businesses. 4. Divesting Some Businesses and Retrenching to a Narrower Diversification Base: a. Retrenching to a narrower diversification base is usually undertaken when top management concludes that its diversification strategy has ranged too far afield and that the company can improve long term performance by concentrating on a smaller number of core businesses and industries. b. Market conditions in a once-attractive business have badly deteriorated c. A business lacks adequate strategic or resource fit, either because it's a cash cow or it is weakly positioned in the industry. d. A diversification move that seems sensible from a strategic-fit stand-point turns out to be a poor cultural fit. e. To complement and strengthen the market position and competitive capabilities of one or more of its present businesses.  Illustration Capsule 8.1, Managing Diversification at Johnson & Johnson— The Benefits of Cross-Business Strategic Fits Discussion Question: 1. Discuss the view held by Johnson & Johnson's corporate management about the benefits of collaboration with others in its various business lines. Answer: J&J's corporate management believes close collaboration among people in diagnostics, medical devices, and pharmaceuticals businesses, where numerous cross-business strategic fits exist, will give it an edge on competitors, most of whom cannot match the company's breadth and depth of expertise. f. Selling a business outright to another company is far and away the most frequently used option for divesting a business. Sometimes a business selected for divestiture has ample resource strengths to compete successfully on its own. In such cases, a corporate parent may elect to spin the unwanted business off as a financially and managerially independent company. When a corporate parent decides to spin off one of its businesses as a separate company, there is the issue of whether or not to retain partial ownership. Selling a business outright requires finding a buyer. This can prove hard or easy, depending on the business. Liquidation is obviously a last resort. 5. Restructuring a Company's Business Lineup through a Mix of Divestitures and New Acquisition; Restructuring strategies involve divesting some businesses and acquiring others to put a whole new face on the company's business lineup. Illustration Capsule 8.4, The Corporate Restructuring Strategy that Made VF the Star of the Apparel Industry Discussion Question: 1. Describe the restructuring strategy which made VF the leader in profits and innovation in its industry Answer: VF divested itself of slow-growing businesses, acquired brands that connected with the way people lived, did years of research before acquiring companies and developed a relationship with the acquisition candidates chief managers before closing the deal. VF made a practice of leaving management of acquired companies in place; each company was able to keep its long standing traditions that shaped culture and spurred creativity. In 2009 VF was the most profitable apparel firm in the industry. a. Performing radical surgery on the group of businesses a company is in becomes an appealing strategy alternative when a diversified company's financial performance is being squeezed or eroded by: 1. Too many businesses in slow-growth, declining, low-margin, or otherwise unattractive industries 2. Too many competitively weak businesses 3. Ongoing declines in the market share of one or more major business units that are falling prey to more market-savvy competitors 4. An excessive debt burden with interest costs that eat deeply into profitability 5. Ill-chosen acquisitions that have not lived up to expectations b. Companywide restructuring can also be mandated by the emergence of new technologies that threaten the survival of one or more of a diversified company's important businesses or by the appointment of a new CEO who decides to redirect the company. CORE CONCEPT Companywide restructuring involves divesting some businesses and acquiring others so as to put a whole new face on the company's business lineup. ASSURANCE OF LEARNING EXERCISES 1. See if you can identify the value chain relationships that make the businesses of the following companies related in competitively relevant ways. In particular, you should consider whether there are cross-business opportunities for (1) transferring skills/technology, (2) combining related value chain activities to achieve economies of scope, and/or (3) leveraging the use of a well-respected brand name or other resources that enhance differentiation. OSI Restaurant Partners • Outback Steakhouse • Carrabba's Italian Grill • Roy's Restaurant (Hawaiian fusion cuisine) • Bonefish Grill (market-fresh fine seafood) • Fleming's Prime Steakhouse & Wine Bar L'Oréal • Maybelline, Lancôme, Helena Rubinstein, Kiehl's, Garner, and Shu Uemura cosmetics • L'Oréal and Soft Sheen/Carson hair care products • Redken, Matrix, L'Oréal Professional, and Kerastase Paris professional hair care and skin care products • Ralph Lauren and Giorgio Armani fragrances • Biotherm skincare products • La Roche-Posay and Vichy Laboratories dermocosmetics  Johnson & Johnson • Baby products (powder, shampoo, oil, lotion) • Band-Aids and other first-aid products • Women's health and personal care products (Stayfree, Carefree, Sure & Natural) • Neutrogena and Aveeno skin care products • Nonprescription drugs (Tylenol, Motrin, Pepcid AC, Mylanta, Monistat) • Prescription drugs • Prosthetic and other medical devices • Surgical and hospital products • Acuvue contact lenses 2. A defining characteristic of unrelated diversification is few cross-business commonalities in terms of key value chain activities. Peruse the business group listings for Lancaster Colony shown below, and see if you can confirm that it has diversified into unrelated business groups. Lancaster Colony's business lineup • Specialty food products: Cardini, Marzetti, Girard's, and Pheiffer salad dressings; T. Marzetti and Chatham Village croutons; Jack Daniels mustards; Inn Maid noodles; New York and Mamma Bella garlic breads; Reames egg noodles; Sister Schubert's rolls; and Romanoff caviar • Candle-lite brand candles marketed to retailers and private-label customers chains. • Glassware, plastic ware, coffee urns, and matting products marketed to the food service and lodging industry. If need be, visit the company's Web site (www.lancastercolony.com) to obtain additional information about its business lineup and strategy.  3. The Walt Disney Company is in the following businesses: • Theme parks • Disney Cruise Line • Resort properties • Movie, video, and theatrical productions (for both children and adults) • Television broadcasting (ABC, Disney Channel, Toon Disney, Classic Sports Network, ESPN and ESPN2, E!, Lifetime, and A&E networks) • Radio broadcasting (Disney Radio) • Musical recordings and sales of animation art • Anaheim Mighty Ducks NHL franchise • Anaheim Angels major league baseball franchise (25 percent ownership) • Books and magazine publishing • Interactive software and Internet sites • The Disney Store retail shops Based on the above listing, would you say that Walt Disney's business lineup reflects a strategy of related diversification, unrelated diversification, or a combination of related and unrelated diversification? Be prepared to justify and explain your answer in terms of the extent to which the value chains of Disney's different businesses seem to have competitively valuable cross-business relationships.

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STRENGTHENING A COMPANY'S COMPETITIVE POSITION CHAPTER SUMMARY Chapter 6 discusses that once a company has settled on which of the five generic strategies to employ, attention must turn to what other strategic actions can be taken in order to complement the choice of its basic competitive strategy. The three dimensions discussed include offensive and defensive competitive actions, competitive dynamics and the timing of strategic moves, and the breadth of a company's activities. These are explored through seven broad categories: (1) Whether and when to go on the offensive, (2) Whether and when to employ defensive strategies, (3) When to undertake strategic moves, (4) Whether to merge or acquire another firm, (5) Whether to integrate the value chain backward or forward, (6) Whether to outsource certain value chain activities, and (7) Whether to enter into strategic alliances. LECTURE OUTLINE I. Going on the Offensive - Strategic Options to Improve a Company's Market Position 1. Regardless of which of the five generic competitive strategies the firm is pursuing, there are times when the company must go on the offensive. The best offensive moves tend to incorporate several key principles: a. Focusing relentlessly on building competitive advantage and converting it into sustainable advantage b. creating and deploying company resources in ways that cause rival to struggle to defend themselves c. Employing the element of surprise as opposed to doing what rivals expect d. Displaying a strong bias for swift, decisive, and overwhelming actions to overpower rivals 2. Strategic offensives should, as a general rule be based on exploiting a company's strongest strategic assets. a. Using a cost-based advantage to attack competitors on the basis of price or value b. Leapfrogging competitors by being the first adopter of next-generation technologies or being first to market with next-generation products c. Pursuing continuous product innovation to draw sales and market share away from less innovative rivals d. Adopting and improving on the good ideas of other companies e. Using hit-and-run or guerrilla warfare tactics to grab sales and market share f. Launching a preemptive strike to secure an advantageous position that rivals are prevented or discouraged from duplicating 3. Firms going on the offensive need to carefully consider which rivals to challenge as well as how to mount the attack. Key targets for an offensive attack include: a. Market leaders that are vulnerable due to unhappy buyers, an inferior product line, or a weak strategy b. Runner-up firms with weaknesses in areas where the challenger is strong c. Struggling enterprises that are on the verge of going under d. Small local and regional firms with limited capabilities 4. Blue Ocean strategies seek to gain a dramatic and durable competitive advantage by abandoning effort to beat out competitors in existing markets and, instead, inventing a new industry or distinctive market segment that renders existing competitors largely irrelevant and allows a company to create and capture altogether new demand. CORE CONCEPT A Blue Ocean strategy is based on discovering or inventing new industry segments that create altogether new demand, thereby positioning the firm in uncontested market space offering superior opportunities for profitability and growth a. This strategy views the business universe as consisting of two distinct types of market space: b. Industry boundaries are defined and accepted, the competitive rules of the game are well understood by all industry members, and companies try to outperform rivals by capturing a bigger share of existing demand. In such markets lively competition constrains a company's prospects for rapid growth and superior profitability since rivals move quickly to imitate or counter the successes of competitors. c. Industry does not really exist yet, is untainted by competition, and offers wide open opportunity for profitable and rapid growth if a company can come up with a product offering and strategy that allows it to create new demand rather than fight over existing demand. Examples include Cirque du Soleil, which re-invented the circus, and eBay. II. Defensive Strategies - Protecting Market Position and Competitive Advantage 1. All firms in a competitive market are subject to the offensive challenges created by rival firms. Defensive strategies counter these challenges by (1) lowering the risk of being attacked, (2) weakening the impact of any attach that occurs, and (3) influencing challengers to aim their attacks at other rivals. 2. Blocking the Attack - The most frequently employed approach to defending a company's present position is to block an attack. Methods can include alternative technology, introduction of new features and models, maintaining economy priced options, enhancing support, and volume discounts to dealers. 3. Signaling Challengers That Retaliation is Likely - The goal is to discourage challengers from attacking, or diverting their attack to another rival. Methods can include public announcements of management's commitment to the market, public policies for matching rivals terms and prices, and periodic strong responses to the moves of weaker competitors. III. Timing a Company's Offensive and Defensive Strategic Moves 1. When to make a strategic move is often as crucial to success as what strategic move to make. This is especially important when first move advantage or disadvantages exist. CORE CONCEPT Because of first-mover advantages and disadvantages, competitive advantage can spring from when a move is made as well as from what move is made. 2. The Potential for first-mover advantages is great however, first-movers typically bear greater risks and development costs than firms that move later. There are five conditions where first-movers have an advantage: a. When pioneering helps build a firm's reputation with buyers and creates brand loyalty - this effectively limits the success of later entrants' attempts to gain market share. b. When a first mover's customers will thereafter face significant switching costs - time invested with product, investments in complementary products, and loyalty programs or long-term contracts. c. When property rights protections thwart rapid imitation of the initial move - patents, copyrights, and trademarks. d. When an early lead enables the first mover to move down the learning curve ahead of rivals -this can be a self-feeding cycle where lower costs gain additional market share, further moving the firm down the curve. e. When a first mover can set the technical standard for the industry - can result in standards wars among early movers. 3. There are circumstances when first movers face disadvantages and it is better to be an adept follower. There are four conditions where late-mover advantages exist: a. When pioneering leadership is more costly than imitating followership and only negligible learning/experience curve benefits accrue to the leader - a condition that allows a follower to end up with lower costs than the first-mover. b. When the products of an innovator are somewhat primitive and do not live up to buyer expectations, thus allowing a clever follower to win disenchanted buyers away from the leader with better-performing products. c. When rapid market evolution (due to fast paced changes in either technology or buyer needs and expectations) gives fast-followers and maybe even cautious late-movers the opening to leapfrog a first-mover's products with more attractive next version products. d. When market uncertainties make it difficult to ascertain what will eventually succeed - in this case, first movers are likely to make mistakes that others can learn from. Illustration Capsule 6.1 Amazon.com's First-Mover Advantage in Online Retailing Discussion Question: 1. Discuss the basis for Amazon.com's competitive advantage and how they leveraged first-mover advantages. Answer: In 1994 Jeff Bezos noted the tremendous growth in internet use and saw an opportunity to sell products online that could be easily shipped. Books made up the bulk of the firm's initial product offering and selling them online allowed the firm to quickly gain market share over traditional booksellers with large retail spaces to support. This large volume and large customer base translated into strong brand recognition and allowed the firm to spread to other product lines and further grow market share. By moving down the learning curve quickly and well ahead of their rivals, Amazon.com was able to develop further competitive advantage and stay ahead of new entrants. 4. In weighing the pros and cons of first-mover versus fast-follower, it matter whether the race to market leadership in a particular industry is a marathon or a sprint. In a marathon a slow-mover is not unduly penalized - first mover advantage can be fleeting. a. The lesson is that there is a market-penetration curve for every emerging opportunity; typically the curve has an inflection point at which all the pieces of the business model fall into place, buyer demand explodes, and the market takes off. It can come early in a fast-rising curve (like e-mail) or farther up on a slow-rising curve (like use of broadband) b. Any company that seeks competitive advantage by being a first-mover thus needs to ask some hard questions: (1) Does market takeoff depend on the development of complementary products of services that currently are not available? (2) Is new infrastructure required before buyer demand can surge? (3) Will buyers need to learn new skills or adopt new behaviors? Will buyers encounter high switching costs? (4) Are there influential competitors in a position to delay or derail the efforts of a first-mover? c. When the answer to any of these questions is yes, then a company must be careful not to pour too many resources into getting ahead of the market opportunity - the battle for market leadership is likely going to be more of a 10-year marathon than a short-lived contest. d. Being first off the starting block turns out to be competitively important only when pioneering early introduction of a technology or product delivers clear and substantial benefits to early adopters and buyers. IV. Strengthening A Company's Market Position Via Its Scope Of Operations 1. Separate from competitive moves and timing, managers must also carefully consider the scope of a company's operations. These decisions essentially determine where the boundaries of the firm lie and the degree to which the operations within the boundaries are common. CORE CONCEPT The scope of the firm refers to the range of activities which the firm performs internally, the breadth of its product and service offerings, the extent of its geographic market presence, and its mix of businesses. 2. There are several dimensions of firm scope that are relevant to business level strategy. The two primary dimensions are horizontal and vertical scope. CORE CONCEPT Horizontal scope is the range of product and service segments that a firm serves within its focal market. CORE CONCEPT Vertical scope is the extent to which a firm's internal activities encompass one, some, many, or all of the activities that make up an industry's entire value chain system, ranging from raw-material production to final sales and service activities. V. Horizontal Merger and Acquisition Strategies 1. Mergers and acquisitions are a much-used strategic plan. They are especially suited for situations where alliances and partnerships do not go far enough in providing a company with access to the needed resources and capabilities. 2. Combining the operations of two companies within the same industry, via merger or acquisition, is an attractive strategic option for achieving operating economies, strengthening the resulting company's competencies and competitiveness, and opening up avenues of new market opportunity. 3. The difference between a merger and an acquisition relates more to the details of ownership, management control, and financial arrangements than to strategy and competitive advantage. The resources, competencies, and competitive capabilities of the newly created enterprise end up much the same whether the combination is the result of acquisition or merger. 4. Many horizontal mergers and acquisitions are driven by strategies to achieve one of five strategic objectives: a. Increasing the company's scale of operations and market share. b. Expanding a company's geographic coverage. c. Extend a company's business into new product categories. d. Gaining quick access to new technologies or complementary resources and capabilities. e. Leading the convergence of industries whose boundaries are being blurred by changing technologies and new market opportunities. 5. Many mergers and acquisitions do not always produce the hoped for outcomes. 6. A number of previously applauded mergers/acquisitions have yet to live up to expectations, including: Ford and Jaguar, AOL and Time Warner and Daimler Benz and Chrysler to name a few. VI. Vertical Integration Strategies 1. Vertical integration extends a firm's competitive and operating scope within the same industry. It involves expanding the firm's range of activities backward into sources of supply and/or forward toward end users. 2. Vertical integration strategies can aim at full integration or partial integration. Illustration Capsule 6.2, Clear Channel Communications: Using Mergers and Acquisitions to Become a Global Market Leader Discussion Question: 1. Discuss the impact that the loosening of rules by the FCC had on Clear Channel's business strategy. Describe how acquisitions benefited this company. Answer: In the late 1980s, following the decision by the FCC to loosen rules regarding the ability of one company to own both radio and TV stations, Clear Channel broadened its strategy and began acquiring small, struggling TV stations. Its new strategy was to buy radio, TV, and outdoor advertising properties with operations in many of the same local markets, share facilities and staffs to cut costs, improve programming, and sell advertising for all three media simultaneously. By 1998, Clear Channel had used acquisitions to build a leading position in radio and television stations. In 2003, this company owned radio and television stations, outdoor advertising, and entertainment venues in 66 countries around the world. A. The Advantages of a Vertical Integration Strategy 1. The two best reasons for investing company resources in vertical integration are to strengthen the firm's competitive position and/or boost its profitability, CORE CONCEPT A vertical integrated firm is one that performs value chain activities along several portions or stages of an industry's overall value chain, which begins with the production of raw materials or initial inputs and culminates in final sales and service to the end consumer. B. Integrating Backward to Achieve Greater Competitiveness: For backward integration to be a viable and profitable strategy, a company must be able to 1) achieve the same scale economies as outside suppliers and 2) match or beat suppliers production efficiency with no drop-off in quality. CORE CONCEPT Backward integration involves performing industry value chain activities previously performed by suppliers or other enterprises engaged in earlier stages of the industry value chain; forward integration involves performing industry value chain activities closer to the end user. 1. Backward integration is most likely to reduce costs when: a. The firm can achieve the same scale economies as outside suppliers. b. The firm can match or beat suppliers' production efficiency with no drop-off in quality. c. The needed technological skills and product capability are easily mastered or can be gained by acquiring a supplier with desired expertise 2. Backward vertical integration can produce a differentiation-based competitive advantage when a company, by performing activities in-house that were previously outsourced, ends up with a better quality offering, improves the caliber of its customer service, or in other ways enhances the performance of its final product. 3. Other potential advantages of backward integration include: a. Decreasing the company's dependence on suppliers of crucial components b. Lessening the company's vulnerability to powerful suppliers inclined to raise prices at every opportunity 4. Integrating Forward to Enhance Competitiveness: The strategic impetus for forward integration is to gain better access to end-users and better market visibility. C. The Disadvantages of a Vertical Integration Strategy 1. Vertical integration has some substantial drawbacks: a. It raises a firm's capital investment in the industry, increasing business risk b. Vertically integrated companies are often slow to embrace technological advances c. It can impair a company's operating flexibility d. It can result in less flexibility in accommodating shifting buyer preferences. e. It may not be able to achieve economies of scale f. It poses all kinds of capacity-matching problems g. It often calls for radical changes in skills and business capabilities D. Weighing the Pros and Cons of Vertical Integration 1. A strategy of vertical integration can have both important strengths and weaknesses. The tip of the scales depends on: a. Whether vertical integration can enhance the performance of strategy-critical activities in ways that lower cost, build expertise, or increase differentiation b. The impact of vertical integration on investments costs, flexibility and response time, and administrative costs of coordinating operations across more value chain activities c. How difficult it will be for the company to acquire the set of sk9ills and capabilities needed 2. Vertical integration strategies have merit according to which capabilities and value chain activities truly need to be performed in-house and which can be performed better or cheaper by outsiders. 3. Absent solid benefits, integrating forward or backward is not likely to be an attractive competitive strategy option. Illustration Capsule 6.3 American Apparel's Vertical Integration Strategy Discussion Question: 1. How has American Apparel used forward and backward integration as a central part of their overall strategy? Answer: American Apparel has moved backward into the industry value chain by doing its own fabric cutting and sewing and also owns its own knitting and dying facilities. It also does its own clothing design, marketing, and advertising. Through this 'end to end' approach, the company is better able to respond to changes in the market and reduce inventory problems. It can also leverage its integrated operations by marketing its products as 'sweatshop free'. VII. Outsourcing Strategies: Narrowing the Boundaries of the Business CORE CONCEPT Outsourcing involves farming out certain value chain activities to outside vendors. 1. The two driving themes behind outsourcing are that outsiders can often perform certain activities better or cheaper and that outsourcing allows a firm to focus its entire energies on its core business. A. When Outsourcing Strategies are Advantageous 1. Outsourcing pieces of the value chain to narrow the boundaries of a firm's business makes strategic sense whenever: a. An activity can be performed better or more cheaply by outside specialist b. An activity is not crucial to the firm's ability to achieve sustainable competitive advantage and will not hollow out its core competencies. c. It streamlines company operations in ways that improve organizational flexibility and speed time to market. d. It reduces the company's risk exposure to changing technology and/or changing buyer preferences e. It allows a company to assemble diverse kinds of expertise speedily and efficiently. f. It allows a company to concentrate on its core business, leverage its key resources, and do even better what it already does. B. The Big Risk of Outsourcing Strategy 1. The biggest danger of outsourcing is that a company will farm out too many or the wrong types of activities and thereby hollow out its own capabilities. VIII. Strategic Alliances and Partnerships 1. Companies in all types of industries and in all parts of the world have elected to form strategic alliances and cooperative partnerships to complement their own strategic initiatives and strengthen their competitiveness in domestic and international markets. 2. Globalization of the world economy, revolutionary advances in technology across a broad front, and untapped opportunities in national markets in Asia, Latin America, and Europe that are opening up, deregulating, and/or undergoing privatization have made partnerships of one kind or another integral to competing on a broad geographic scale. 3. Many companies now find themselves thrust in the midst of two very demanding competitive races: a. The global race to build a presence in many different national markets b. The race to seize opportunities on the frontiers of advancing technology 4. Companies may form strategic alliances or collaborative partnerships in which two or more companies join forces to achieve mutually beneficial strategic outcomes. CORE CONCEPT A Strategic alliance is a formal agreement between two or more separate companies in which they agree to work cooperatively toward some common objective. 5. Strategic alliances go beyond normal company-to-company dealings but fall short of merger or full joint venture partnership with full ownership ties. 6. A special type of strategic alliances is a joint venture in which one or more allies have ownership in certain of the other alliance members. CORE CONCEPT A joint venture is a type of strategic alliance in which the partners set up an independent corporate entity that they own and control jointly, sharing in its revenues and expenses. 7. Five factors make an alliance "strategic" as opposed to just a convenient business arrangement. a. It helps build, sustain or enhance a core competence or competitive advantage b. It helps block a competitive threat. d. It increases the bargaining power of alliance members over suppliers or buyers e. It helps open up important new market opportunities. e. It mitigates a significant risk 8. Strategic cooperation is a much-favored approach in industries where new technological developments are occurring at a furious pace A. Why and How Strategic Alliances are Advantageous 1. The most common reasons why companies enter into strategic alliances are to collaborate on technology or the development of promising new products, to overcome deficits in their technical and manufacturing expertise, to acquire altogether new competencies, to improve supply chain efficiency, to gain economies of scale in production and/or marketing, and to acquire or improve market access through joint marketing agreements. 2. A company that is racing for global market leadership needs alliances to: a. Get into critical country markets quickly and accelerate the process of building a potent global market presence b. Gain inside knowledge about unfamiliar markets and cultures through alliances with local partners c. Access valuable skills and competencies that are concentrated in particular geographic locations 3. A company that is racing to stake out a strong position in a technology or industry of the future needs alliances to: a. Establish a stronger beachhead for participating in the target technology or industry b. Master new technologies and build new expertise and competencies faster than would be possible through internal efforts c. Open up broader opportunities in the target industry by melding the firm's own capabilities with the expertise and resources of partners 4. Allies can learn much from one another in performing joint research, sharing technological know-how, and collaborating on complementary new technologies and products - sometimes enough to enable them to pursue other new opportunities on their own. B. Capturing the Benefits of Strategic Alliances 1. The extent to which companies benefit from entering into alliances and collaborative partnerships seem to be a function of six factors; a. Picking a good partner b. Being sensitive to cultural differences c. Recognizing that the alliance must benefit both sides d. Ensuring that both parties live up to their commitments e. Structuring the decision-making process so that actions can be taken swiftly when needed f. Managing the learning process and then adjusting the alliance agreement over time to fit new circumstance 2. Alliances are more likely to be long lasting when (1) they involve collaboration with partners that do not compete, or (2) a trusting relationship has been established, and (3) both parties conclude that continued collaboration is in their mutual interest. C. The Drawbacks of Strategic Alliances and Partnerships 1. Potential drawbacks to strategic alliances and partnerships can be widespread ranging from culture clashes between the partners to the risk of losing control of valuable intellectual property. It is also possible that the partnership will simply fail to measure up to its performance expectations. 2. Managers must carefully weigh the potential costs and potential benefits of strategic alliances over vertical integration or horizontal mergers/acquisitions. There are three advantages of strategic alliances to consider. a. They lower investment costs and risks for each partner. b. They are more flexible organizational forms and allow for faster market response. c. They are faster to deploy. 3. They key advantages to using strategic alliances are the increased ability to exercise control over the partner's activities and a gre3ater willingness for the partners to make relationship specific investments. D. How to Make Strategic Alliances Work 1. The stability of an alliance depends on how well the partners work together, their success in adapting to changing internal and external conditions, and their willingness to renegotiate the bargain if circumstances so warrant. 2. A surprisingly large number of alliances never live up to expectations. An article (2007) from the Harvard Business Review found that even though the number of alliances increases by about 25 percent annually, about 60 to 70 percent continue to fail each year. 3. Experience indicates that alliances stand a reasonable chance of helping a company reduce competitive disadvantage but rarely have they proved a durable competitive edge over rivals. 4. Companies that have created effective strategic alliances often credit the following factors: a. They create a system for managing their alliances. b. They build relationships with their partners and establish trust. c. They protect themse4lves from the threat of opportunism by setting up safeguards. d. They make commitments to their partners and see that their partners do the same. e. They make learning a routine part of the management process. 5. Managers must realize that alliance management is an organizational capability and develop it over time to become another source of competitive advantage. 

5

THE FIVE GENERIC COMPETITIVE STRATEGIES - WHICH ONE TO EMPLOY? CHAPTER SUMMARY Chapter 5 describes the five basic competitive strategy options—which of the five to employ is a company's first and foremost choice in crafting overall strategy and beginning its quest for competitive advantage. LECTURE OUTLINE I. Introduction 1. By competitive strategy we mean the specifics of management's game plan for competing successfully—how it plans to position the company in the marketplace, its specific efforts to please customers, and improve its competitive strength, and the type of competitive advantage it wants to establish. 2. A company achieves competitive advantage whenever it has some type of edge over rivals in attracting buyers and coping with competitive forces. 3. There are many routes to competitive advantage, but they all involve giving buyers what they perceive as superior value. 4. Delivering superior value—whatever form it takes—nearly always requires performing value chain activities differently than rivals and building competencies and resource capabilities that are not readily matched. II. The Five Generic Competitive Strategies 1. There are countless variations in the competitive strategies that companies employ, mainly because each company's strategic approach entails custom-designed actions to fit its own circumstances and industry environment. 2. The biggest and most important differences among competitive strategies boil down to: a. Whether a company's market target is broad or narrow b. Whether the company is pursuing a competitive advantage linked to low costs or product differentiation 3. Five distinct competitive strategy approaches stand out:  a. A low-cost provider strategy: striving to achieve lower overall costs than rivals and appealing to a broad spectrum of customers, usually by under pricing rivals. b. A broad differentiation strategy: seeking to differentiate the company's product/service offering from rivals' in ways that will appeal to a broad spectrum of buyers c. A focused (or market niche) strategy based on lower cost: concentrating on a narrow buyer segment and outcompeting rivals by serving niche members at a lower cost than rivals d. A focused (or market niche) strategy based on differentiation: concentrating on a narrow buyer segment and outcompeting rivals by offering niche members customized attributes that meet their tastes and requirements better than rivals products e. A best-cost provider strategy: giving customers more value for the money by incorporating good-to-excellent product attributes at a lower cost than rivals; the target is to have the lowest (best) costs and prices compared to rivals offering products with comparable attributes 4. Figure 5.1, The Five Generic Competitive Strategies—Each Stakes Out a Different Position in the Marketplace, examines how each of the five strategies stake out a different market position. III. Low-Cost Provider Strategies 1. A company achieves low-cost leadership when it becomes the industry's lowest-cost provider rather than just being one of perhaps several competitors with comparatively low costs. 2. In striving for a cost advantage over rivals, managers must take care to include features that buyers consider essential. 3. For maximum effectiveness, companies employing a low-cost provider strategy need to achieve their cost advantage in ways difficult for rivals to copy or match. CORE CONCEPT A low-cost leader's basis for competitive advantage is lower overall costs than competitors. Successful low-cost leaders are exceptionally good at finding ways to drive costs out of their businesses. 4. A company has two options for translating a low-cost advantage over rivals into attractive profit performance: a. Option 1: use the lower-cost edge to underprice competitors and attract price-sensitive buyers in great numbers to increase total profits b. Option 2: maintain the present price, be content with the current market share, and use the lower-cost edge to earn higher profit margin on each unit sold 5. Illustration Capsule 5.1 describes how Wal-Mart managed its value chain to achieve a huge low-cost advantage over rival supermarket chains. This is its strategy for out-managing its rivals in efficiently performing various value chain activities to gain a low-cost leadership. A. The Two Major Avenues for Achieving a Cost Advantage 1. To achieve a low-cost advantage over rivals, a firm's cumulative costs across its overall value chain are lower than competitors' cumulative costs. There are two ways to accomplish this: a. Do a better job than rivals in performing value chain activities more cost effectively. b. Revamp the firm's overall value chain to eliminate or bypass some cost-producing activities 2. Cost-Efficient Management of Value Chain Activities: Managers must launch a concerted, ongoing effort to ferret out cost-saving opportunities in every part of the value chain. CORE CONCEPT A cost driver is a factor that has a strong influence on a company's costs. a. Striving to capture all available economies of sale b. Taking full advantage of learning/experience curve effects c. Trying to operate facilities at full capacity d. Improving supply chain efficiency e. Using lower cost inputs wherever doing so will not entail too great a sacrifice in quality f. Using the company's bargaining power vis-E0-vis suppliers to gain concessions g. Using communications systems and information technology to achieve operating efficiencies h. Employing advanced production technology and process design to improve overall efficiency i. Being alert to the cost advantages of outsourcing and vertical integration j. Motivating employees through incentives and company culture 3. Figure 5.2, Cost Drivers: The Keys to Driving Down Company Costs, provides an illustration of each cost driver. 4. Revamping the Value Chain to Curb or Eliminate Unnecessary Activities: Dramatic costs advantages can emerge from finding innovative ways to eliminate or bypass cost-producing value chain activities. The primary ways companies can achieve a cost advantage by reconfiguring their value chains include: a. Selling direct to consumers and bypassing the activities and costs of distributors and dealers b. Coordinating with suppliers to bypass the need to perform certain value chain activities, speed up their performance, or otherwise increase overall efficiency c. Reducing materials handling and shipping costs by having suppliers locate their plants or warehouses close to the company's own facilities Illustration Capsule 5.1, How Wal-Mart Managed Its Value Chain to Achieve a Huge Low-Cost Advantage over Rival Supermarket Chains Discussion Question: 1. Which parts of the value chain does Wal-Mart target in order to achieve a low-cost advantage over its rivals? Answer: Wal-Mart has an extensive real-time information sharing network with vendors to make the supply chain much more efficient. It targets purchasing, store delivery, procurement practices that leverage the company's relative buying power, investment in a large fleet of trucks for distribution of inventory, optimization of the product mix, use of security systems, preferred real estate rental and leasing rates, and lowering labor costs. Together, these initiatives give the company a 22 percent advantage over rival supermarket chains. 5. Examples of Companies That Revamped Their Value Chains to Reduce Costs: Nucor Corporation drastically revamped the value chain process for manufacturing steel products by using relatively inexpensive electric arc furnaces a. One example of accruing significant cost advantages from creating altogether new value chain systems can be found in the beef-packing industry. b. Southwest Airlines has reconfigured the traditional value chain of commercial airlines to lower costs and thereby offer dramatically lower fares to passengers. Dell Computer has proved a pioneer in redesigning its value chain architecture in assembling and marketing personal computers. B. The Keys to Success in Achieving Low-Cost Leadership 1. To succeed with a low-cost provider strategy, company managers have to scrutinize each cost creating activity and determine what drives its cost. 2. Success in achieving a low-cost edge over rivals comes from outmanaging rivals in figuring out how to perform value chain activities most cost effectively and eliminating or curbing nonessential value chain activities. 3. While low-cost providers are champions of frugality, they are usually aggressive in investing in resources and capabilities that promise to drive costs out of the business. 4. Wal-Mart is one of the foremost practitioners of low-cost leadership. Other companies noted for their successful use of low-cost provider strategies include Visio, Briggs & Stratton, Bic, Stride Rite, Poulan, General Electric, and Whirlpool. C. When a Low-Cost Provider Strategy Works Best 1. A competitive strategy predicated on low-cost leadership is particularly powerful when: a. Price competition among rival sellers is especially vigorous b. The products of rival sellers are essentially identical and suppliers are readily available from any of several eager sellers c. There are a few ways to achieve product differentiation that have value to buyers d. Most buyers use the product in the same ways e. Buyers incur low costs in switching their purchases from one seller to another f. Buyers are large and have significant power to bargain down prices g. Industry newcomers use introductory low prices to attract buyers and build a customer base 2. A low cost provider is in the best position to win the business of price-sensitive buyers, set the floor on market price, and still earn a profit. D. The Pitfalls of a Low-Cost Provider Strategy 1. Perhaps the biggest pitfall of a low-cost provider strategy is getting carried away with overly aggressive price cutting and ending up with lower, rather than higher, profitability. a. A low-cost/low-price advantage results in superior profitability only if (1) prices are cut by less than the size of the cost advantage or (2) the added value gains in unit sales are large enough to bring in bigger total profit despite lower margins per unit sold. 2. A second big pitfall is not emphasizing avenues of cost advantages that can be kept proprietary or that relegate rivals to playing catch-up. 3. A third pitfall is becoming too fixated on cost reduction. a. Even if these mistakes are avoided, a low-cost competitive approach still carries risk. 4. A low-cost provider's product offering must always contain enough attributes to be attractive to prospective buyers—low price, by itself, is not always appealing to buyers. IV. Broad Differentiation Strategies 1. Differentiation strategies are attractive whenever buyers' needs and preferences are too diverse to be fully satisfied by a standardized product or by sellers with identical capabilities. CORE CONCEPT The essence of a broad differentiation strategy is to offer unique product attributes that a wide range of buyers find appealing and worth paying for. 2. Successful differentiation allows a firm to: a. Command a premium price for its product b. Increase unit sales c. Gain buyer loyalty to its brand 3. Differentiation enhances profitability whenever the extra price the product commands outweighs the added costs of achieving the differentiation. A. Types of Differentiation Themes 1. Companies can pursue differentiation from many angles. 2. the most appealing approaches to differentiation are those that are hard or expensive for rivals to duplicate. 3. Easy to copy differentiating features cannot produce sustainable competitive advantage; differentiation based on competencies and capabilities tend to be more sustainable. B. Managing the Value Chain to Create the Differentiating Attributes 1. Differentiation opportunities can often be found in uniqueness drivers; possibilities include the following: CORE CONCEPT A uniqueness driver is a factor that can have a strong differentiating effect. a. Striving to create superior product features, design, and performance. b. Improving customer service or adding additional service. c. Pursuing production R&D activities d. Striving for innovation and technological advances e. Pursuing continuous quality improvement f. Increasing the intensity of marketing and sales activity g. Seeking out high-quality inputs h. Improving employee skill, knowledge, and experience through human resource management activity 2. Figure 5.2, Uniqueness Drivers: The Keys to Creating Differentiation Advangtage, provides an illustration of each cost driver. C. Revamping the Value Chain to Increase Differentiation 1. Differentiation opportunities can exist in activities all along an industry's value chain; possibilities include the following: a. Coordinating with channel allies to enhance customer perception of value b. Coordinating with suppliers to better address customer needs 2. Managers need keen understanding of the sources of differentiation and the activities that drive uniqueness to devise a sound differentiation strategy and evaluate various differentiation approaches. D. Delivering Superior Value via a Broad Differentiation Strategy 1. While it is easy enough to grasp that a successful differentiation strategy must entail creating buyer value in ways unmatched by rivals, the big question is which of four basic differentiating approaches to take in delivering unique buyer value. 2. One route is to incorporate product attributes and user features that lower the buyer's overall costs of using the product. 3. A second route is to incorporate tangible features that raise product performance. 4. A third route is to incorporate intangible features that enhance buyer satisfaction in noneconomic or intangible ways. 5. A fourth route is to signal the value of the company's product offering - high price, packaging, ad content 6. A differentiator's basis for competitive advantage is either a product/service offering whose attributes differ significantly from the offering of rivals or a set of capabilities for delivering customer value that rivals do not have. E. When a Differentiation Strategy Works Best 1. Differentiation strategies tend to work best in market circumstance where: a. Buyer needs and uses of the product are diverse b. There are many ways to differentiate the product or service and many buyers perceive these differences as having value c. Few rival firms are following a similar differentiation approach d. Technological change is fast-paced and competition revolves around rapidly evolving product features F. The Pitfalls of a Differentiation Strategy 1. Differentiation strategies can fail for any of several reasons. 2. Any differentiating feature that works well is a magnet to imitators, and attempts at differentiation are doomed to fail if competitors can quickly copy most or all of the appealing product attributes a company comes up with. 3. A second pitfall is that the company's differentiation strategy produces an unenthusiastic reception because buyers see little value in the unique attributes of a company's product. 4. The third big pitfall of a differentiation strategy is overspending on efforts to differentiate the company's product offering, thus eroding profitability 5. Other common pitfalls and mistakes in pursuing differentiation may include: a. Being timid and not striving to open up meaningful gaps in quality or service or performance features vis-à-vis the products of rivals—tiny differences between rivals' product offerings may not be visible or important to buyers b. Adding so many frills and extra features that the product exceeds the needs and use patterns of most buyers. c. Charging too high a price premium 6. A low-cost provider strategy can defeat a differentiation strategy when buyers are satisfied with a basic product and do not think extra attributes are worth a higher price. V. Focused (or Market Niche) Strategies 1. What sets focused strategies apart from low-cost leadership or broad differentiation strategies is concentrated attention on a narrow piece of the total market. 2. The target segment or niche can be defined by: a. Geographic uniqueness b. Specialized requirements in using the product c. Special product attributes that appeal only to niche members A. A Focused Low-Cost Strategy 1. A focused strategy based on low cost aims at securing a competitive advantage by serving buyers in the target market niche at a lower cost and lower price than rival competitors. 2. This strategy has considerable attraction when a firm can lower costs significantly by limiting its customer base to a well-defined buyer segment. 3. Focused low-cost strategies are fairly common. B. A Focused Differentiation Strategy 1. A focused strategy based on differentiation aims at securing a competitive advantage by offering niche members a product they perceive is better suited to their own unique tastes and preferences. 2. Successful use of a focused differentiation strategy depends on the existence of a buyer segment that is looking for special product attributes or seller capabilities and on a firm's ability to stand apart from rivals competing in the same target market niche. 3. Illustration Capsule 5.4, Progressive Insurance's Focused Differentiation Strategy in Auto Insurance, provides details about the company's focused differentiation strategy. C. When a Focused Low-Cost or Focused Differentiation Strategy is Attractive 1. A focused strategy aimed at securing a competitive edge based either on low cost or differentiation becomes increasingly attractive as more of the following conditions are met: Illustration Capsule 5.2 Vizio's Focused Low-Cost Strategy Discussion Question: 1. Discuss the advantages this organization achieves from its focused low-cost provider strategy. Answer: Through utilization of this type of strategy, Visio is able to capitalize on the market segment that is comprised of price-conscious buyers who want a quality picture for a reasonable price. Through its relationship with its major supplier and its focus on a single product category sold through limited distribution channels, it allows its customers deep price discounts. a. The target niche is big enough to be profitable and offers good growth potential b. Industry leaders do not see that having a presence in the niche is crucial to their own success c. It is costly or difficult for multisegment competitors to put capabilities in place to meet specialized needs of the target market niche and at the same time satisfy the expectations of their mainstream customers d. The industry has many different niches and segments e. Few, if any, other rivals are attempting to specialize in the same target segment f. The focuser has a reservoir of customer goodwill and loyalty Illustration Capsule 5.3, Progressive Insurance's Focused Differentiation Strategy in Auto Insurance Discussion Question: 1. How does Progressive's choice of strategy differentiate it from other insurance companies in the marketplace? Answer: Progressive's choice of a focused differentiation strategy is one that caters to the more high-risk driver. Such drivers are not overly welcomed in the more traditional insurance companies of today. This company also has teams of roving claim adjusters to settle claims on the spot and offers motorcycle coverage as well as luxury car insurance. These are significantly different offerings from those of the more traditional insurance carriers that have been predominate within the industry. D. The Risks of a Focused Low-Cost or Focused Differentiation Strategy 1. Focusing carries several risks such as: a. The chance that competitors will find effective ways to match the focused firm's capabilities in serving the target niche b. The potential for the preferences and needs of niche members to shift over time toward the product attributes desired by the majority of buyers c. The segment may become so attractive it is soon inundated with competitors, intensifying rivalry and splintering segment profits VI. Best-Cost Provider Strategies CORE CONCEPT Best-cost strategies are a hybrid of low-cost provider and differentiation strategies that aim at providing desired quality/features/performance/service attributes while beating rivals on price. 1. Best-cost provider strategies aim at giving customers more value for the money. The objective is to deliver superior value to buyers by satisfying their expectations on key quality/service/features/performance attributes and beating their expectations on price. 2. A company achieves best-cost status from an ability to incorporate attractive attributes at a lower cost than rivals. 3. Best-cost provider strategies stake out a middle ground between pursuing a low-cost advantage and a differentiation advantage and between appealing to the broader market as a whole and a narrow market niche. 4. From a competitive positioning standpoint, best-cost strategies are a hybrid, balancing a strategic emphasis on low cost against a strategic emphasis on differentiation. 5. The competitive advantage of a best-cost provider is lower costs than rivals in incorporating good-to-excellent attributes, putting the company in a position to underprice rivals whose products have similar appealing attributes. A. When a Best-Cost Provider Strategy Works Best 1. A best-cost provider strategy is very appealing in markets where product differentiation is the norm and there is an attractively large number of value-conscious buyers who prefer midrange products to cheap, basic products or expensive top-of-the-line products. 2. Illustration Capsule 5.3, Toyota's Best-Cost Producer Strategy for Its Lexus Line, describes how Toyota has used a best-cost approach with its Lexus models. B. The Big Risk of a Best-Cost Provider Strategy 1. The danger of a best-cost provider strategy is that a company using it will get squeezed between the strategies of firms using low-cost and differentiation strategies. 2. To be successful, a best-cost provider must offer buyers significantly better product attributes in order to justify a price above what low-cost leaders are charging. Illustration Capsule 5.2 Toyota's Best-Cost Producer Strategy for Its Lexus Line Discussion Question: 1. Discuss how Toyota has been able to achieve its low-cost leadership status in the industry. Answer: Toyota has achieved low-cost leadership status because it has developed considerable skills in efficient supply chain management and low-cost assembly capabilities and because its models are so well-positioned in the low-to-medium end of the price spectrum. These are enhanced by Toyota's strong emphasis in quality. VII. The Contrasting Features of the Five Generic Competitive Strategies: A Summary 1. Deciding which generic competitive strategy should serve as the framework for hanging the rest of the company's strategy is not a trivial matter. 2. Each of the five generic competitive strategies positions the company differently in its market and competitive environment. 3. Each establishes a central theme for how the company will endeavor to outcompete rivals. 4. Each creates some boundaries or guidelines for maneuvering as market circumstances unfold and as ideas for improving the strategy are debated. 5. Each points to different ways of experimenting and tinkering with the basic strategy. 6. Deciding which generic strategy to employ is perhaps the most important strategic commitment a company makes—it tends to drive the rest of the strategic actions a company decides to undertake. 7. Each entails differences in terms of product line, production emphasis, marketing emphasis, and means for sustaining the strategy. Table 5.1, Distinguishing Features of the Five Generic Strategies, examines the distinguishing features of each of the five generic strategies. 8. One of the big dangers here is that managers will opt for "stuck in the middle" strategies that represent compromises between lower costs and greater differentiation and between broad and narrow market appeal. 9. Only if a company makes a strong and unwavering commitment to one of the five generic competitive strategies does it stand much chance of achieving sustainable competitive advantage that such strategies can deliver if properly executed. 10. A company's competitive strategy is unlikely to succeed unless it is predicated on leveraging a competitively valuable collection of resources and capabilities that match the strategy.