MGMT 493: Test 2 Review (Ch. 5-8)

T/F: As there are substantial profits that can be earned with a disruptive innovation, the innovator - or the company with the innovator - is the one that profits the most.

(often) False

How firms add value to businesses:

(you only want to be in those businesses that are worth more together than apart) - horizontal diversification: change(s) in product scope - vertical integration - front-end & back-end diversification - economies of scope

Why innovation may not be not always be commercially viable:

- A lot of basic knowledge goes into an invention, many times it takes years and lots of different inventions and innovations to make one commercially viable innovation - Commercially viable innovations do not tend to emerge like a thunderbolt, it takes work to craft them into a profitable line of business - Some innovations never take off

Standards War: Key Resources Helpful in Winning

- Control over installed base of customers - Owning intellectual property rights - Ability to innovate in order to extend and adapt initial technological advances - First-mover advantage - Strength in complements (ability to promote your standards) - Reputation and brand name

Many great inventions fail to make money because:

- Demand Issues: the value proposition is unclear to the customer (people don't adopt it) - Supply Issues: you don't make money from product/service

The profitability of an innovation to the innovator depends on (2 factors):

- Demand Side: The value created by the innovation - Supply Side: The share of that value the innovator is able to appropriate.

Property Rights: Trademarks

- Give an individual or corporation a right to identify a product with a graphic symbol that customers can readily recognize for the quality and service they have earned - no time limit

Disruptive innovation

- Helps create new industries or alter existing industries --> Leads to paradigm shifts ----> Changes in the basic assumptions or system conditions ----> Permanently disrupts existing business model - Disrupts any existing ways value is appropriated --> Can be immediate, take a few years or even decades - Restarts the industry life cycle or creates an entirely new industry --> inherently risky

Innovator vs. Imitator

- How much technological uncertainty accompanies this innovation ? --> Informs how you will balance risk and reward - What are the characteristics of the firm exploiting innovation? - What should be done in-house and what should be outsourced? --> be a leader or follower? - Can they take advantage of lead time and how?

Follow if:

- If you can learn from incumbents mistakes; become a fast follower - If the costs of imitation is low - When more objective standards for value of a product exists (ex. cars, drugs) - When the firm has resources that enable them to be a 'fast follower' - If the product requires important complementary resources --> Specialist firms emerge as suppliers of complementary resources as an industry develops over time

Market Uncertainty

- It is difficult to know the size and growth rate of new markets - Consumer acceptance and adoption is difficult to predict - It is difficult to know if you are following the 'real' trend, and how long that trend will last

Property Rights: Patents

- Provide inventors with exclusive rights to manufacture a device for a period of time - currently 17 yrs - that has been fixed - Relatively effective - Key disadvantage --> they make the information public

Property Rights: Copyrights

- Provide the creators of written materials the right to a profit from the sale of their works for a definite period of time --Often life of creator + 50-100 years - Related to written material, graphic material, or music. - Piracy of software, film, music and books is a big issue in regards to copyright law

Lead if:

- Resources are limited or you can obtain unique access to resources - You can patent certain designs - If you have a tacit & complex process that is difficult for others to observe - If the firm's resources and capabilities are well suited to take advantage of lead - It is possible to create a unique product category that is difficult for competitors to redefine (such as when the value of a product is highly SUBJECTIVE) - When expected life of product category is short - If you can develop the dominant design or technical standards -When switching from one brand to another is costly

Network externalities (cont.)

- Strategic decision firms make in deploying their complementary resources may create multiple points of competition between firms. - If network externalities require the availability of a complementary resources it may prevent a standard from emerging. - The presence of network externalities highlights a unique type of competitive pressure firms may experience --> Having the BEST product or service is not always what determines success in a market --> Opportunity to connect with others is important --> Some markets are winner-take-all & will converge on a single technical standard - The presence of network externalities may lead to a standards war

Strategic options: Extend existing industry life cycle

- Take advantage of underdeveloped markets - Resist pressures for commodification --> increase differentiation - Remove steps from the value chain - Consolidate the existing industry - Target a niche - Mass customization

Standards war

- Technical standards can create winner-take-all markets - Firms compete fiercely when trying to win a standards war Previous standards wars: - Microsoft Windows over Apple Macintosh - Sony PlayStation 2 over Sega Dreamcast & Nintendo Cube - Sony (Blu-ray) vs Toshiba (HD-DVD) - JVC (VHS) vs Sony (Beta-Max) - Microsoft (IE) over Netscape

global integration

- benefits: --> economies of scale --> start off internationally

Property Rights: Trade secrets

- formulas, recipes, processes, patterns, customer lists or compilation of information that is not generally known or reasonably ascertainable - there is an expectation of a reasonable effort to maintain its secrecy --> Non-disclosure agreements, non-compete clauses - Doesn't expire but lacks formal protection --> third parts can independently duplicate and use the secret info if discovered

transaction cost economies

- haggle & search - negotiation

methods for diversification

- organic growth --> customers are alike yours - acquisitions --> take on existing firms - alliances --> customers are different (hence the reason for an alliance) --> equity --> direct investments OR joint ventures --> nonequity --> transactions OR contracts -----> transactions = licensing & agreements

vertical integration

- transaction cost economies (TCE)

Horizontal Diversification adds value when:

-It allows the combined businesses to deliver greater value and utility to new or existing customers than they could without being diversified OR - If the combined businesses reduce the firms overall costs of producing goods or services

Strategic options: Restart the industry life cycle through new product innovation

-Low end disruptive product innovation -High end disruptive product innovation -Produce a completely new product that target a new untapped market --Blue Ocean Strategy

property rights

-Patents -Trademarks -Trade Secrets -Copyrights

Standards War: Strategies:

-Pre-empt market through early entry; penetration pricing & commitment to low prices -Create alliance with allies (Complementors, Customers, Competitors) -Expectations management --> Need to convince customers, suppliers and producers of complementary goods that your firm will win

Destroy value through diversification:

-increase bureaucracy -decrease overall clarity -creates a financial buffer -distorts governance and incentives

5 strategies for managing risk

1. Cooperating with Lead Users 2. Limiting Risk Exposure: - Avoid major capital commitments (e.g. lease don't buy) - Outsource - Alliances to access other firms' resources and capabilities - Keep debt low 3. Flexibility: - Keep options open - Use speed of response to adapt quickly to new information - Learn from mistakes 4. Determining whether to lead or to follow 5. Managing networking externalities

Scenario Planning - Key Steps (6):

1. Defining the purpose of the analysis 2. Deciding on the time horizon 3. Identifying key trends (PEST) 4. Identifying key uncertainties 5. Creating the scenarios and checking that they are internally consistent 5. Identifying indicators that might signal which scenario is unfolding 6. Assessing the strategic implications of each scenario

diversification

1. Employing Slack 2. Creating Synergy 3. Sharing Knowledge 4. Leveraging Similar Business Models 5. Spreading Capital 6. Learning about new Markets

What are the 4 reasons might influence a firm decision to expand internationally?

1. Increase Revenue 2. Reduce Costs 3. Manage Risks 4. Learn

Types of Uncertainty (2):

1. Market Uncertainty 2. Technological Uncertainty

Scenario Planning - Limitations (2):

1. Not useful for predicting "black swan events" (rare events that are beyond the realm of normal expectations) 2. Difficult to change (even if a company has people who have a clear understanding of potential trends it may be unable to execute them)

Decline --> Strategic options (3):

1. Restart the industry life cycle through new product innovation 2. Extend existing industry life cycle 3. Exit industry

3 forms of comparative advantage

1. porter's diamond - Factor conditions - Related and supporting industries - Demand conditions 2. CAGE -Cultural -Admin -Geographic -Economic 3. Arbitrage -Economic -Capital -Cultural -Administration

Why change is difficult: (9 reasons)

1. strategic myopia - companies don't see opportunities outside their immediate field of vision 2. firms worry about cannibalizing existing products - Icarus Paradox (companies get into trouble over their strengths more often than over their weaknesses) 3. strategic inflection points - difficult to gauge if/when change is needed --> Is what is going on just noise or truly an inflection point? 4. Difficult to get buy-in for a radical change - too many options - People can interpret the same vision for change in different ways - People Resist Change 5. Performance J-Curve - Performance decreases before it improves 6. Structural Inertia - Infrastructure change is costly --> constrains what seems possible --> routines can obscure the need to make specific internal changes 7. Resources Intensive - Decision: immediately stop what you previously did well vs. attempt to do both? 8. Customer base has existing expectations - Customers are not always the driving force behind change 9. Competitors - Start-Ups do not have the same baggage as existing companies have

Appropriating Value from an Innovation: Value Chain

Basic knowledge --> invention --> innovation --> diffusion --> imitation (supply side) OR adoption (demand side) Often involves an entire ecosystem --> Complementary Resources Concerns if you are organized to capture value? (O from VRIO)

Strategy: Business-level vs. Corporate-level

Business-Level --> how a firm competes 1. Who is the target customer? 2. What is the value proposition for this target customer? 3. What are the essential capabilities required to deliver that value proposition? Corporate-Level --> where should a firm compete 4. What businesses should the company be in? - scope --> Product scope - How wide a range of products does the firm supply? --> Vertical scope - What range of vertically linked activities does the firm encompass? --> Geographical scope - Is the firm local or global? 5. How should the company add value to those businesses?

4 ways to appropriate value from an innovation:

Costly to imitate: 1. Property Rights - Can we be legally protected from imitation? 2. Tacitness & Complexity - Can we make it difficult for other to know what to imitate? 3. Lead-Time - If competitors imitate us can we still maintain our advantage? Organized to capture value: 4. Complementary Resources - Are we set up to profit from this innovation?

Implications of network externalities:

Creates +/- feedback - Positive feedback: once a technology or system gains market leadership it continues to attract new buyers - Negative feedback: once market leadership is lost, a downward spiral is likely

Technological Uncertainty

Difficult to know whether the design you invest in will be dominant as the technological standard - Picking the wrong technology is likely to be costly

T/F: Over 70% of the firms that try to make a radical change fail.

False - the myth of corporate persistence

Diffusion: Supply Side Issues

How do you make money from an innovation? --> Commercially viable innovations are often imitated ----> Property Rights ----> Tacit & Complex ----> Lead Time Concerns if it is rare & costly to imitate? (R & I from VRIO)

Tacitness & Complexity

If there is no intellectual property protection, then need to really think about how to make something difficult to copy - Difficulty can be embodied in the innovation itself OR (more likely) created by the capability used to produce an innovation Knowledge that is: - easy to codify can be easily copied - tacit (understood or implied without being stated) knowledge is more difficult to copy Unless you have a truly fundamental invention that no one else can copy, strong intellectual property protection probably will not be enough - Firms can often find ways to work around a IP - Need to develop a complex process/product that is difficult for others to copy

Process Innovation

Incremental changes to design; emphasis shift to innovation in manufacturing to reduce costs and increase product reliability -AFTER product innovation, firms tend to focus on reducing costs and increasing product reliability -Changes are primarily being made to the production and distribution of the product Goals: -production for the masses -reducing production costs -improving distribution channels -increasing brand awareness -increasing efficiency in production

Complementary resources

Organize firms to capture the maximum amount of the returns/value of an innovation: -Organized to: --obtain feedback from early users --have flexibility to respond to changes --Determine what to do in house and what to outsource ----> create a commercialization model ------> Determine what resources you currently have and which you will need ----> Balance risk & reward appropriately (IMPORTANT) ------> Should the firm limit their exposure in case the innovation doesn't pan out? ------> Do they take on all the risk and hence stand to gain all the reward OR should the firm protect itself but in the process stand to gain less reward? - The demand for many new innovations is often constantly shifting -->A firm often will not possess all resources and capabilities to produce a product - Are they specific or generic? --> Generic: the innovator is in a better position to capture value --> Specific: the supplier is in a better position to capture value

Strategic options: Exit industry

Slowly: Shift resources to other more promising opportunities Quickly: Liquidate and sell valuable resources

1) Supply 2) Demand

The two major forces that drive industry evolution are:

T/F: Companies that establish industry standards are capable of earning returns that are unmatched by any other type of competitive advantage.

True

T/F: If compatible products (i.e. complementary resources) are needed, network externalities may prevent the emergence of a superior technology.

True

T/F: It is difficult to overcome incumbent advantage when there is a dominant design or de facto standard.

True

T/F: When faced with technological uncertainty, if an entire infrastructure of resources is needed, pioneers usually have huge development costs.

True

Diffusion: Demand Side Issues

What does your customer value/want? - What are they willing to pay? For what? Concerns customers value what you are offering (V from VRIO)

Technical standard

a format, or interface, or system that allows for interoperability - arise where there are network effects that cause each customer to choose the same technology as everyone else to avoid being stranded - a specification that is important for compatibility (ex. Android; i/OS; in 2010 there were a lot more than now Blackberry RIM, Symbian, etc.)

Scenario planning

a systematic way think about how the future may unfold - builds upon what is known about current trends and signals - is used by companies to overcome some of the limitations of planning

Lead-time

ability to capitalize on your lead over competitors Even if your intellectual property protection is strong and/or there is tacitness and complexity in your process, competitors will find ways to imitate firms that are pursuing valuable opportunities - Need to: --> continually improve upon advantage to stay ahead of competitors --> Stay in front of followers on the learning curve

Growth

accelerating market penetration as technical improvements and increased efficiency open up the mass market design for manufacture; process innovation

BCG matrix

dog --> liquidate/divest ? --> analyze to determine whether the business will become a star or a dog --> invest (closer to star); divest (closer to far side of box) cash cow --> milk star --> invest for growth factors: * market share * market growth potential plot: sales/expected growth

Network externalities

exist whenever the value of a product to an individual customer depends on the # of other users of that product and/or of the # of users of compatible products (through some common interface) Either: - Depend on others using the product (i.e., Social Media, Fax Machines, Dating Websites) OR Depend on the availability of other compatible products (i.e., Railroads - standard railroad gauge track; Energy efficient cars - recharging/refueling stations) Can be +/- for the consumer: +: the fax machine - when a new user purchases a fax machine it makes everyone else's fax machine more valuable. -: traffic congestion - the more people using the road, the less value of the road to each user.

Demand

growth of a market --> Industry Life Cycle: 1. Introduction 2. Growth 3. Maturity 4. Decline

invention vs. innovation

invention - the creation of new products and processes through the development of new knowledge or from new combinations of existing knowledge innovation - trying to commercialize invention(s)

Economies of Scope

lowering the average cost for a firm in producing two or more products or services - exist when using a resource across multiple activities is more efficient than when the activities are carried out independently --> creates the potential for multi-business firms to gain cost advantages over more specialized businesses

back-end diversification

operational-oriented end of the business - exploiting resources ---more economies of scope/scale ... - enhancing resources

Economies of Scale

reductions in the average cost (cost per unit) associated with increasing the scale of production for a single product type

front-end diversification

retail-oriented end of the business - exploiting resources ---expand customer base ---better serve existing customers through more & better products - enhancing resources ...

Introduction

sales are small and the rate of market penetration is low because the industry's products are little known and customers are few the novelty of the technology, small scale of production, and lack of experience mean costs are high and quality is low customers for new products tend to be affluent, innovation-oriented and risk tolerant. product innovation

Decline

the industry becomes challenged by new industries that produce technologically superior substitute products low overheads; rationalization; buyer selection

Product Innovation

the invention of the products and subsequent improvements to them --> emphasis on product design - Radical product innovation to creation of new industry, competition to become the standard - Lot of variation in the product being produced early on but over time industries tend to converge upon a dominant design and/or technical standards. - At this point the industry coalesces around a leading design and there is a shift from radical to incremental product innovation.

Maturity

the market is increasingly saturated and once saturation is reached demand is wholly for replacement cost efficiency (scale economies, low cost inputs)

Dominant design

the overall configuration of a product or system (ex. smart phones) - may or may not embody a technical standard

Supply

the production and diffusion of knowledge -process innovation -product innovation --> Once a dominant design emerges, the focus of innovation shifts from product innovation to process innovation

national adaptation

treat each nation --> low cost of customization --> high level of