Chapter 8 Corporate Strategy
disadvantage firm : Low powered incentive:
. These often are less attrac- tive motivators than the entrepreneurial opportunities and rewards that can be obtained in the open market.
three dimensions of corporate strategy
1) vertical integration, diversification, and geographic scope
why firms need to grow
1. increase profits 2. lower costs 3. increase market power 4. reduce risk 5. motivate management
Vertical value chain
1. raw materials 2. components, intermediate goods (displays 3. final assembly, manufacturing 4. marketing, sales 5. after-sales service and support Vertical integration would be going backward from here.
franchising : strategic alliance
A contractual agreement between a franchisor and a franchisee that allows the franchisee to operate a business using a name and format developed and supported by the franchisor.
Incomplete contracting : Market Disadvantage
Although market transactions are based on implicit and explicit contracts, all contracts are incomplete to some extent, because not all future contingen- cies can be anticipated at the time of contracting
Key questions for corporate strategy
In what stages of the industry value chain should the company participate (vertical integration)? The industry value chain describes the transformation of raw materials into finished goods and services along distinct vertical stages. What range of products and services should the company offer (diversification)? Where should the company compete geographically in terms of regional, national, or international markets (geographic scope)?
Market advantage: incurred flexibility
Increased flexibility. Transacting in markets enables those who wish to purchase goods to compare prices and services among many different providers.
principal agent problem
It can arise when an agent such as a manager, performing activities on behalf of the principal (the owner of the firm), pursues his or her own interests.1
market advantage: high-powered incentives
Rather than work as a salaried engineer for an existing firm, for example, an individual can start a new venture offering specialized software. High- powered incentives of the open market include the entrepreneur's ability to capture the venture's profit, to take a new venture through an initial public offering (IPO), or to be acquired by an existing firm. In these so-called liquidity events,
Managerial Motives
Research in behavioral economics suggests that firms may grow to achieve goals that benefit its managers more than their stockholders.4 As we will discuss in detail when presenting the principal-agent problem later in the chapter, managers may be more interested in pursuing their own interests such as empire building and job security—plus managerial perks such as corporate jets or executive retreats at expensive resorts—rather than increasing shareholder value. Although there is a weak link between CEO compensation and firm performance, the CEO pay package often correlates more strongly with firm size.5
vertically integrate
Strategy of owning the means by which an organization produces goods or services. avoiding the markets
separation of ownership and control
The dispersal of ownership among many small shareholders, in which control is largely concentrated in the hands of salaried, professional managers who own little (or no) equity.
parent-subsidiary relationship
The most-integrated alternative to performing an activity within one's own corporate family. The corporate parent owns the subsidiary and can direct it via command and control.
equity alliances: strategic
Yet another form of strategic alliance is an equity alliance—a partner- ship in which at least one partner takes partial ownership in the other partner. they can do this by buying stocks or assets. can gain private information about a company
subsidiary
a company that is completely controlled by another company Transaction costs that arise are frequently due to political turf battles, which may include the capital bud- geting process and transfer prices, among other areas.
short term contracting
a firm sends out requests for proposals (RFPs) to several companies, which initiates competitive bidding for contracts to be awarded with a short duration, generally less than one year. won't usually buy specific investments
credible commitment
a long-term strategic decision that is both difficult and costly to reverse.
Transaction Costs
are all costs associated with an economic exchange. The concept is developed in transaction cost economics, a strategic management framework, and enables managers to answer the question of whether it is cost-effective for their firm to expand its boundaries through vertical integration or diversification. T
economies of scope
are the savings that come from producing two (or more) outputs or providing different services at less cost than producing each individually, though using the same resources and technology (as discussed in Chapter 6).
Site specificity
assets required to be co-located, such as the equipment necessary for mining bauxite and aluminum smelting.
physical-asset specificity
assets whose physical and engineering properties are designed to satisfy a particular customer
Benefits of vertical integration
back ward (securing talent, purchasing) or foward (buying out your customers) Lowering costs. Improving quality. Facilitating scheduling and planning. Facilitating investments in specialized assets. Securing critical supplies and distribution channels. Vertical integration allows firms to increase operational efficiencies through improved coordination and the fine-tuning of adjacent value chain activities.
Firm disadvantage: administrative costs
because of nessary bureaucracy
corporate strategy
comprises the decisions that senior management makes and the gaol directed actions it takes in the quest for competitive advantage s in several industries
drivers of the 3 main dimensions
core competencies 2) economies of scale 3) economies of scope 4) transaction costs
external transaction costs
costs of searching for a firm or an individual with whom to contract, and then negotiating, monitoring, and enforcing the contract
lower costs
driving average cost down with quality increases
transaction cost economics
explains and predicts the boundaries of the firm. determine what they want to do in house, and then look to the external market
vertically disintegrated with a low degree of vertical integration
firm focus on only one or a few stages of the industry value chain. the rest outsourced
weyerhaeuser
fully vertically integrated, completely in house
opportunism
grabbing opportunities; seeking unprincipled advantage
specialized assets
have a high opportunity cost: they have significantly more value in their intended use than in their next-best use. opens up to opportunism 1) site specificity 2) physical-assets specificity 3) human-asset specificity-
increase profits
higher return for their shareholders, or owners, if they do not read their target their stock price falls.... hard to bounce back from this
firm advantage: coordination
highly complex tasks to allow for specialized vision of bar
long term contracts: strategic alliance
ic investments. Long-term contracts, which work much like short- term contracts but with a duration generally greater than one year, help overcome this drawback. Long-term contracts help facilitate transaction-specific investments.
Risks of vertical integration
increasing costs (increasing costs because they are not exposed to market competition), reducing quality (because their will always be a buyer for their products, market suppliers will have larger scale and improve efficiencies and their capabilities), reducing flexibility (unable to reinvest in new capital to respond to market trends), increasing the potential for legal repercussions (in fear of monopolies the FTC and DOJ will be all over that).
human-asset specificity
investments made in human capital to acquire unique knowledge and skills
licensing: strategic alliance
is a form of long-term contracting in the manufacturing sector that enables firms to commercialize intellectual property such as a patent. T
Vertical Integration
is the firm's ownership of its production of needed inputs or of the channels by which it distributes its outputs. the value that the add in their value chain. what percentage is within the firm itself
Firm advantage: community of knowledge
meaning employees within firms have ongoing relationships, exchanging ideas and working closely together to solve problems.
forward vertical integration
movieg ownership of activities closer to the ned customer
backward vertical itegration
moving ownership of activities upstream to the origating inputs of the value chain.
Economies of scale
occur when a firm's average cost per unit decreases as its output increases (as discussed in Chapter 6).
Enforcement of contracts: Market Disadvantage
often is difficult, costly, and time-consuming to enforce legal contracts. Not only does litigation absorb a significant amount of managerial resources and attention, but also it can easily amount to several million dollars in legal fees. Legal exposure is one of the major hazards in using markets rather than integrating an activity within a firm's hierarchy.
OEMS
original equipment manufacturers
transaction costs
re all internal and external costs associated with an economic exchange, whether it takes place within the boundaries of a firm or in markets Transaction cost economics allows us to explain which activities a firm should pursue in-house ("make") versus which goods and services to obtain externally ("buy").
core competencies
re unique strengths embedded deep within a firm (as discussed in Chapter 4). Core competencies allow a firm to differentiate its products and services from those of its rivals, creating higher value for the customer or offering products and services of comparable value at lower cost
Reduce Risk
rms might be motivated to grow in order to diversify their product and service portfolio through competing in a number of different industries. The rationale behind these diversification moves is that falling sales and lower performance in one sector (e.g., GE's oil and gas unit) might be compensated by higher performance in another (e.g., GE's health care unit). Such conglomerates attempt to achieve economies of scope (as first discussed in Chapter 6).
Market Disadvantage: Opportunism by other parties
s behavior characterized by self-interest seeking with guile (we'll discuss this in more detail later).
information asymmetries
situations in which one party is more informed than another, because of the possession of private information.
from advantage transaction specific investments
such as specialized robotics equipment that is highly valuable within the firm, but of little or no use in the external market.
internal transaction costs
the costs of recruiting and retaining employees; paying salaries and benefits; setting up a shop floor; providing office space and computers; and organizing, monitoring, and supervising work. communication between business units
Increase Market Power
they want to increase their market share and with it their market power
Joint Venture : Strategic alliance
two or more firms cooperate in the ownership or management of an operation on an equity basis. facilitates transaction specific investments
strategic alliances
voluntary arrangements between firms that involve the sharing of knowledge, resources, and capabilities with the intent of developing processes, products, or services demotes different hybrid organizational forms: long-term contracts, equity alliances, and joint ventures
Market Disadvantage: Search Costs
within the firm itself, entails non-trivial search costs. In particular, a firm faces search costs when it must scour the market to find reliable suppliers from among the many firms competing to offer similar products and services.
