BUSMHR 4490 Quiz 2 (Chapters 6-9)

Diversification Discount

Situation in which the stock price of highly diversified firms is valued at less than the sum of their individual business units.

Diversification Premium

Situation in which the stock price of related diversification firms is valued at greater than the sum of their individual business units.

To formulate an appropriate business-level strategy, managers must answer the who, what, why, and how questions of competition:

Who—which customer segments will we serve? What customer needs, wishes, and desires will we satisfy? Why do we want to satisfy them? How will we satisfy our customers' needs?

Equity Alliance

Yet another form of strategic alliance is an equity alliance—a partnership in which at least one partner takes partial ownership in the other partner.

Joint Venture

A stand-alone organization created and jointly owned by two or more parent companies.

Joint Venture

A standalone organization created and jointly owned by two or more parent companies

Scope of Competition

The size—narrow or broad—of the market which a firm chooses to compete.

Internal resources are relevant if:

They are similar to those the firm needs to develop. They are superior to those of competitors in the targeted area. Resources are relevant if they pass the VRIO Framework.

Differentiation Strategy:

A company that uses a differentiation strategy can achieve a competitive advantage as long as its economic value created (V − C) is greater than that of its competitors.

Diversification

An increase in the variety of products and services a firm offers or markets and the geographic regions in which it competes.

Radical Innovation

An innovation that draws on novel methods or materials, is derived from an entirely different knowledge base or from a recombination of existing knowledge bases with a new stream of knowledge.

Disruptive Innovation

An innovation that leverages new technologies to attack existing markets from the bottom up

Corporate Strategy

Decisions that senior management makes and the goal-directed actions taken in the quest for competitive advantage in several industries and markets simultaneously. - Answers key question of where to compete.

Economies of Scale (Cost Driver)

Decreases in cost per unit as output increases. Economies of scale allow firms to: 1. Spread their fixed costs over a larger output. 2. Employ specialized systems and equipment. 3. Take advantage of certain physical properties.

Industry Value Chain

Depiction of the transformation of raw materials into finished goods and services along distinct vertical stages, each of which typically represents a distinct industry in which a number of different firms are competing.

Invention

In a next step, invention describes the transformation of an idea into a new product or process, or the modification and recombination of existing ones.

Are the firm's internal resources high or low in relevance?

In relation to solving the resource gap If high, the firm should develop internally.

Diseconomies of Scale

Increases in cost as output increases

Complements

Increases perceived value Consumed in tandem

Product Features

Increases perceived value Turns commodity products into differentiated products Strong R&D capabilities are often needed

Risks of Vertical Integration

Increasing costs. Reducing quality. Reducing flexibility. Increasing the potential for legal repercussions.

Industry Life Cycle

Industries tend to follow a predictable industry life cycle: As an industry evolves over time, we can identify five distinct stages: introduction, growth, shakeout, maturity, and decline.

Explicit Knowledge

Knowledge that can be codified; concerns knowing about a process or product.

Benefits of Vertical Integration

Lowering costs. Improving quality. Facilitating scheduling and planning. Facilitating investments in specialized assets. Securing critical supplies and distribution channels.

Alliance Design and Governance

Managers design the alliance and choose an appropriate governance mechanism from among the three options: non-equity contractual agreement, equity alliances, or joint venture. In addition to the formal governance mechanisms, interorganizational trust is a critical dimension of alliance success.

Complimentary Assets

Marketing Manufacturing After-sale service

Minimum Efficient Scale (MES)

Output range needed to bring down the cost per unit as much as possible, allowing a firm to stake out the lowest-cost position that is achievable through economies of scale.

Non-Equity Alliance

Partnership based on contracts between firms.

Equity Alliance

Partnership in which at least one partner takes partial ownership in another.

Customer Service

Process of ensuring customer satisfaction with a product or service.

Horizontal Integration

Process of merging with a competitor at the same stage of the industry value chain Corporate strategy that can improve a firm's strategic position in a single industry

Value Drivers

Product Features Customer Service Complements

Enter New Markets

Product markets Service markets Geographical markets

Cost of Input Factors

Raw materials Capital Labor IT services

Given that mergers and acquisitions, on average, destroy rather than create shareholder value, why do we see so many mergers?

Reasons include: -Principal—agent problems (related to managerial hubris). -The desire to overcome competitive disadvantage (preemptive). -Superior acquisition and integration capabilities (companies like Disney).

Focused Cost-Leadership Strategy

Same as the cost-leadership strategy except with a narrow focus on the niche market.

Focused Differentiation Strategy

Same as the differentiation strategy except with a narrow focus on the niche market.

Economies of Scope

Savings that come from producing two (or more) outputs at less cost than producing each output individually, despite using the same resources and technology.

Social Entrepreneurship

Social entrepreneurship describes the pursuit of social goals while creating profitable businesses. Social entrepreneurs evaluate the performance of their ventures not only by financial metrics but also by ecological and social contribution (profits, planet, and people). They use a triple-bottom-line approach to assess performance (discussed in Chapter 5).

Strategic Entrepreneurship

Strategic entrepreneurship describes the pursuit of innovation using tools and concepts from strategic management.

Principal-Agent Problem

The agent (e.g., manager), does not act in the best interests of the principal (e.g., shareholder).

Innovation can be:

a powerful strategic weapon to gain and sustain competitive advantage.

Vertical market failure occurs when

transactions within the industry value chain are too risky, and alternatives to integration are too costly or difficult to administer.

Maturity Stage

-After the shakeout is completed and a few firms remain -Industry structure morphs into an oligopoly with only a few large firms -Process innovation reaches its maximum as firms attempt to lower cost -Level of product innovation sinks to its minimum -Remaining firms tend to enjoy economies of scale

Decline Stage

-Changes in the external environment often take industries from maturity to decline. -The size of the market contracts further as demand falls, often rapidly. -Innovation efforts along both product and process dimensions cease. -Managers have four strategic options: exit, harvest, maintain, or consolidate.

Introduction Stage

-Characterized by the innovator's core competency in R&D -Barriers to entry tend to be high -Innovators may also encounter first-mover-disadvantages -Strategic objective: achieve market acceptance and seed future growth

Shakeout Stage

-Competitive intensity increases and weaker firms are forced out -Firms begin to cut prices and offer more services -Consolidations and acquisitions occur, weaker firms exit through bankruptcy -Winners often stake out a strong position as cost leaders -Few may implement a blue ocean strategy, combining differentiation and low cost

Growth Stage

-Demand increases after introduction -Competitive rivalry muted -Standard emerges -Product/ process innovations made

For diversification to enhance firm performance, it must do at least one of the following:

-Provide economies of scale, which reduces costs. -Exploit economies of scope, which increases value. -Reduce costs and increase value.

Learning Curve

-Rate of improvement in performing a task is a function of time. -Rate of change in average cost (in hours or dollars) is also a function of cumulative output.

Several factors led to a shift in the knowledge landscape from closed innovation to open innovation. They include:

-The increasing supply and mobility of skilled workers. -The exponential growth of venture capital. -The increasing availability of external options (such as spinning out new ventures) to commercialize ideas that were previously shelved or insource promising ideas and inventions. -The increasing capability of external suppliers globally.

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.

Patent

A form of intellectual property, and gives the inventor exclusive rights to benefit from commercializing a technology for a specified time period in exchange for public disclosure of the underlying idea.

Licensing

A form of long-term contracting in the manufacturing sector that enables firms to commercialize intellectual property such as a patent.

Managerial Hubris

A form of self-delusion in which managers convince themselves of their superior skills in the face of clear evidence to the contrary.

Crossing the Chasm Framework

Conceptual model that shows how each stage of the industry life cycle is dominated by a different customer group.

How to Respond to Disruptive Innovation

1. Continue to innovate in order to stay ahead of the competition. 2. Guard against disruptive innovation by protecting the low end of the market. 3. Disrupt yourself, rather than wait for others to disrupt you (e.g., reverse innovation).

4 Steps to The Innovation Process

1. Idea 2. Invention 3. Innovation 4. Imitation

Executives must determine their corporate strategy by answering three questions:

1. In what stages of the industry value chain should the company participate (vertical integration)? 2. What range of products and services should the company offer (diversification)? 3. Where should the company compete geographically in terms of regional, national, or international markets (geographic scope)?

Why Firms Need to Grow

1. Increase profits. 2. Lower costs. 3. Increase market power. 4. Reduce risk. 5. Managerial motives.

There are three main benefits to a horizontal integration strategy:

1. Reduction in competitive intensity. 2. Lower costs. 3. Increased differentiation.

Why do firms make acquisitions? Three main reasons stand out:

1. To gain access to new markets and distribution channels. 2. To gain access to a new capability or competency. 3. To preempt rivals.

Markets and Technology Framework

A conceptual model to categorize innovations along the market (existing/new) and technology (existing/new) dimensions.

TYPES OF DIVERSIFICATION: GENERAL DIVERSIFICATION STRATEGIES

A firm that is active in several different product markets is pursuing a product diversification strategy. A firm that is active in several different countries is pursuing a geographic diversification strategy. A company that pursues both a product and a geographic diversification strategy simultaneously follows a product—market diversification strategy.

Alliance Management Capability

A firm's ability to effectively manage three alliance-related tasks concurrently: (1) partner selection and alliance formation, (2) alliance design and governance, and (3) post-formation alliance management.

Absorptive Capacity

A firm's ability to understand external technology developments, evaluate them, and integrate them into current products or create new ones.

Open Innovation

A framework for R&D that proposes permeable firm boundaries to allow a firm to benefit not only from internal ideas and inventions, but also from external ones. The sharing goes both ways: some external ideas and inventions are insourced while others are spun out.

Core Competence Strategic Matrix

A framework to guide corporate diversification strategy by analyzing possible combinations of existing/new core competencies and existing/new markets.

Credible Commitment

A long-term strategic decision that is both difficult and costly to reverse.

Architectural Innovation

A new product in which known components, based on existing technologies, are reconfigured in a novel way to attack new markets.

Taper Integration

A way of orchestrating value activities in which a firm is backwardly integrated but also relies on outside-market firms for some of its supplies and/or is forwardly integrated but also relies on outside market firms for some of its distribution.

Hostile Takeovers

Acquisition in which the target company does not wish to be acquired.

What do Value Drivers do?

Add value to products and services Are responsive to customer preferences Can increase costs -Additional R&D is needed -Innovation is needed -But customers are willing to pay a premium

Internal Transaction Costs

Also referred to as admin costs—these are costs related to organizing the economic exchange within a hierarchy.

Standard

An agreed-upon solution about a common set of engineering features and design choices.

Franchising

An example of long-term contracting. The franchisor such as McDonald's, Burger King, 7-Eleven, H&R Block, or Subway grants a franchisee (usually an entrepreneur owning no more than a few outlets) the right to use the franchisor's trademark and business processes to offer goods and services that carry the franchisor's brand name.

Incremental Innovation

An innovation that squarely builds on an established knowledge base and steadily improves an existing product or service.

Reverse Innovation

An innovation that was developed for emerging economies before being introduced in developed economies. Sometimes called frugal innovation.

Real Options Perspective

Breaks down a larger investment decision into a set of smaller decisions Staged sequentially over time and allows firms to obtain information in stages

Blue Ocean Strategy

Business-level strategy that successfully combines differentiation and cost-leadership activities using value innovation to reconcile inherent trade-offs.

Closeness

Can be achieved through integrated alliances - Equity alliances - Joint ventures Also enables the borrowing of resources

Strategic alliances can help strengthen competitive position:

Change industry structure to the firm's favor (e.g., influence industry standards)

Backward Vertical Integration

Changes in an industry value chain that involve moving ownership of activities upstream to the originating (inputs) point of the value chain.

Forward Vertical Integration

Changes in the industry value chain that involve moving ownership of activities closer to the end (consumer) point of the value chain.

Strategic Trade-Offs

Choices between a cost or value position. Such choices are necessary because higher value creation tends to generate higher cost.

Underlying strategic management concepts

Core competencies: unique strengths embedded deep within a firm. Economies of scale: firm's average cost per unit decreases as its output increases. Economies of scope: two or more outputs cost less than producing each individually, (using the same resources). Transaction costs: all internal and external costs associated with an economic exchange.

Cost Drivers

Cost of Input Factors Economies of Scale Learning Curve Effects Experience Curve Effects

Open Innovation- Ideas and innovation can originate from external sources such as:

Customers Suppliers Universities Start-ups Competitors

Why do incumbent firms focus on incremental innovation?

Economic Incentives: - Established companies are focused on defending their position Organizational Inertia: - Established companies rely on formalized business processes and structures Innovation Ecosystem: - Established companies are part of an ecosystem: suppliers, buyers, complementors

Partner Selection and Alliance Formation

Ensure B(x) > C(x), and one of the five reasons of alliance formation present Ensure partner compatibility which captures aspects of cultural fit between firms Ensure partner commitment in willingness to share resources for the long term

Entrepreneurs

Entrepreneurs are the agents who introduce change into the competitive system. They do this not only by figuring out how to use inventions, but also by introducing new products or services, new production processes, and new forms of organization.

Entrepreneurship

Entrepreneurship describes the process by which change agents (entrepreneurs) undertake economic risk to innovate—to create new products, processes, and sometimes new organizations.

The build-borrow-buy framework: Main Issues

Executives must determine the degree to which certain conditions apply, either high or low. 1. Relevancy. How relevant are the firm's existing internal resources to solving the resource gap? 2.Tradability. How tradable are the targeted resources that may be available externally? 3.Closeness. How close do you need to be to your external resource partner? 4.Integration. How well can you integrate the targeted firm, should you determine you need to acquire the resource partner?

4 Strategic Options of the Decline Stage

Exit -Large number of firms in US textile industry due to low-cost foreign competition Harvest -Reduce investments, minimum of resources (e.g., IBM typewriters) Maintain -Continue to support marketing efforts despite demand (e.g., Marlboro cigarettes) Consolidate -Buying rivals—may approach monopoly power (albeit in declining industry)

Learn New Capabilities

Firms are motivated by the desire to learn from their partners. Co-opetition (cooperation by competitors to achieve a strategic objective) Firm that learns more quickly is motivated to exit the alliance "learning races"

Differentiation Strategy

Generic business strategy that seeks to create higher value for customers than the value that competitors create.

Cost-Leadership Strategy

Generic business strategy that seeks to create the same or similar value for customers at a lower cost.

Strategy Canvas

Graphical depiction of a company's relative performance vis-à-vis its competitors across the industry's key success factors.

Value Curve

Horizontal connection of the points of each value on the strategy canvas that helps strategists diagnose and determine courses of action.

Tacit Knowledge

Knowledge that cannot be codified; concerns knowing how to do a certain task and can be acquired only through active participation in the task.

Winner-Take-All Markets

Markets where the market leader captures almost all of the market share and is able to extract a significant amount of the value created.

Integration

Mergers and acquisitions are: The most costly The most complex The most difficult to reverse strategic option

Strategic Outsourcing

Moving one or more internal value chain activities outside the firm's boundaries to other firms in the industry value chain.

Product Innovation

New or recombined knowledge embedded in new products.

Closed Innovation

New products discovered, developed, and commercialized internally

Process Innovation

New ways to produce existing products or deliver existing services.

Strategic alliances lie in the middle of the make-or-buy continuum and can be governed by the following mechanisms:

Non-equity alliances Equity alliances Joint ventures

Business Level Strategies

None of the business-level strategies (cost leadership, differentiation, and focused variations thereof) is inherently superior. The success of each depends on context and relies on two factors: 1. How well the strategy leverages the firm's internal strengths while mitigating its weaknesses. 2. How well it helps the firm exploit external opportunities while avoiding external threats.

External Transaction Costs

Search costs related to contracting individuals and firms and then the negotiating, monitoring and enforcing of it.

Principal-Agent Problem

Situation in which and agent performing activities on behalf of a principal pursues his or her own interests.

Information Asymmetry

Situation in which one party is more informed than another because of the possession of private information.

Why do firms enter strategic alliances?

Strengthen competitive position. Enter new markets. Hedge against uncertainty. Access critical complementary assets. Learn new capabilities.

Decline Stage: Crossing the Chasm

Technology Enthusiasts -Introductory phase of the industry life cycle (2.5%) Early Adopters -Customers entering the market in the growth stage, roughly 13.5 percent of the market potential. Early Majority -Customers coming into the market during the shakeout stage, about 34 percent. Late Majority -Customers entering the market in the maturity stage, making up approximately 34 percent of the total. Laggards -Entering during the declining phase (about 16%)

Innovation

The commercialization of any new product or process, or the modification and recombination of existing ones. First-mover advantages are competitive benefits that accrue to the successful innovator.

By formulating corporate strategy, executives make important choices along three dimensions that determine the boundaries of the firm:

The degree of vertical integration—in what stages of the industry value chain to participate. The type of diversification—what range of products and services to offer. The geographic scope—where to compete.

Tradability

The firm creates a contract. -Allows for the transfer of ownership -Allows for use of the resource Short-term and long-term contracts are a way to borrow resources from another company.

Vertical Integration

The firm's ownership of its production of needed inputs or the channels by which it distributes it outputs.

Cost Leadership Strategy (Understanding Cost Drivers)

The goal of a cost-leadership strategy is to reduce the firm's cost below that of its competitors while offering adequate value. The cost leader, as the name implies, focuses its attention and resources on reducing the cost to manufacture a product or deliver a service in order to offer lower prices to its customers.

Business-Level Strategy

The goal-directed actions managers take in their quest for competitive advantage when competing in a single product market. It concerns the broad question, "How should we compete?"

Idea

The innovation process begins with an idea. The idea is often presented in terms of abstract concepts or as findings derived from basic research.

Experience Curve

The inverse relationship between the total value-added costs of a product and the company experience in manufacturing and marketing it.

Mergers

The joining of two independent companies to form a combined entity.

Network Effects

The positive effect (externality) that one user of a product or service has on the value of that product for other users.

Acquisitions

The purchase or takeover of one company by another (friendly/ unfriendly)

Value Innovation

The simultaneous pursuit of differentiation and low cost in a way that creates a leap in value for both the firm and the consumers; considered a cornerstone of blue ocean strategy.

Transaction cost economics

Transaction cost economics explains and predicts the boundaries of the firm. Insights gained from transaction cost economics help managers decide what activities to do in-house versus what services and products to obtain from the external market. This is accomplished through the analysis of the firm's external and internal environments.

Specialized Assets

Unique assets with high opportunity cost: They have significantly more value in their intended use than in their next best use. They come in three types: site specificity, physical asset specificity, and human-asset specificity.

Trade Secrets

Valuable proprietary information that is not in the public domain and where the firm makes every effort to maintain its secrecy.

Strategic Alliances

Voluntary arrangements between firms that involve the sharing of knowledge, resources, and capabilities with the intent of developing processes, products, or services.