Strategic Perspective Essay

19th of January – Week 1 Lecture

Reflective essay Due Thursday 1st March 2012 by 18:00

  • Use 6 individual unique References (6-20 Ref)
  • 2,000 words
  • Use ‘I’ and ‘We’ in this report
  • Use Reference Lists and Bibliography
  • Reference the work on blackboard
  • Critical incident
  • Critical incident theory

Final Coursework about Apple

  • Two case studies (portfolio) back of module book
  • Secondary research
  • Leadership, Communication, Reputation
  • Organizational Theory
  • Leadership Theory
  • Ethics and CSR
  • 1999 rebirth of Apple

Ethics and CSR

  • Assessment of intangible assets
  • Definition: Intangible is harder to manage as not a physical object.
  • Intangible resources can have a deep impact on tangible resources.
  • Tangible failure of Marks and Spencer’s
  • Weak marketing communication strategy which resulted in profits cut 1/3

ú  Intangible issues

  • Organizational Culture
  • Lack of diversity in the group
  • Non-adaptive culture
  • Static
  • Not out looking
  • Stopped
  • Disney
  • Lacked intangible

ú  Cultural Experience

ú  International Experience

  • Loss of 3 billion in 36 months

Reputation management

Business Ethics & CSR

  • Ethics
  • Brand equity – KPI of Brand Equity tables (past profitability, market share / awareness)
  • CSR application of Business Ethics & Stakeholder engagement
  • Metrics
  • Brand Equity
  • Corporate Reputation / Management Reputation
  • Apple spends 70% of all marketing costs on PR
  • PR
  • Crisis management (Protect your current reputation)
  • Reputation managements (future reputation
  • Poor reputational management
  • Sony
  • Lookup Wikipedia

ú  Sony Rootkit scandal

  • RootKit – Back OS Sony
  • Battery burnup

ú  Banking Industry

  • Trust economics
  • Strategic practices and Rep metrics
  • CSI

Apple

  • Apple litigation against Samsung
  • Intangible impacts as bad PR
  • Future impact on Apple because of bullying of other companies.

Corporate CSR

Glo-bus results for Year 6 (practice) results

  -----------------------------------------------------------------------
                   SUMMARY OF YEAR 6 (practice) RESULTS
  -----------------------------------------------------------------------
                          Revenue*  EPS**  ROE***  Stock   Credit  Image
   Company Name           ($000s)   ($)     (%)    Price   Rating  Rating
  ---------------------   -------  ------  ------  ------  ------  ------
   A Company               282619   1.75    13.3    27.96    A-      82
   B Company               206531   1.63    14.9    25.24    B+      70
   C Company               166873   0.52     5.0    22.68    B-      67
 >>D Flash                  218975   2.11    20.1    32.57    B+      75
   E Company               193240   1.38    13.3    23.42    B-      68
   F Company               176956   2.24    17.5    34.72    A+      55
   G Company               225001   1.85    18.3    29.57    B+      76
   H Company               203234   1.94    17.7    28.13    A-      70
   I Company               202648   1.92    17.6    27.46    A-      70
   J Company               201120   1.89    17.4    27.32    A-      69
   K Company               202967   1.93    17.7    27.99    A-      70
   L Company               203234   1.94    17.7    28.13    A-      70
  -----------------------------------------------------------------------
    * Represent total Year 6 sales revenues.
   ** Represent total Year 6 earnings per share.
  *** Represents the overall ROE for Year 6.
>> our team, we are currently the best performing team at our business department :)

Business Strategy Value chain

  • Identifying Strengths and Weaknesses  – Analysing the Value Chain

Module Leader: Dr Jane Chang

The Components of a Single-Business Company’s Strategy

Are  the  Company’s
Prices  and  Costs  Competitive?

Assessing whether a firm’s costs are competitive with those of rivals is a crucial part of company situation analysis

Key analytical tools

Value chain analysis

Benchmarking

Concept:  Company  Value  Chain

A company’s business consists of all activities undertaken in designing, producing, marketing, delivering, and supporting its product or service

All these activities that a company performs internally combine to form a value chain—so-called because the underlying intent of a company’s activities is to do things that ultimately create value for buyers

The value chain contains two types of activities

Primary activities (where most of
the value for customers is created)

Support activities that facilitate
performance of the primary activities

Porter’s Value Chain

Value chain analysis

Identifies precisely how firm adds value through distinctiveness in:

  • Resources deployed in an activity
  • Physical, financial, human, intellectual, reputational
  • Degree of an activity’s vertical integration
  • Scale and scope of an activity
  • Location of an activity
  • Linkages between activities

Intention of value chain analysis is to develop a value chain that is 

  • more efficient than your competitors – so you gain a cost advantage
  • is configured differently to competitors (so they cannot easily copy it) – so you have a sustainable competitive advantage

Value Chain Analysis

  • Use model as template to cover all areas
  • Need to address these questions
  • What important skills, knowledge, people, physical resources do we have (or don’t have )in this area?
Comments:
a company needs to determine what bring most value to its organisation and can use it to differentiate from their competitors and thus have a competitive advantage
  • Can we use that activity to differentiate the organisation?
  • Can we enhance value added by that activity?
  • Is there an opportunity to reduce the cost of that activity or eliminate that activity?

Is applicable to the processes / operations within the company and to the specific interactions which that company has with others (suppliers, customers) in its environment.

Comments:

Representative Value Chain for an Entire Industry

How Do We Measure  a  Company’s  Cost  Competitiveness?

After identifying key value chain activities, the next step involves determining costs of performing specific value chain activities using activity-based costing

Appropriate degree of disaggregation depends on

Economics of activities

Value of comparing narrowly defined
versus broadly defined activities

Guideline – Develop separate cost
estimates for activities

Having different economics

Representing a significant or growing proportion of costs

Activity-Based  Costing:  A  Key
Tool  in  Analyzing  Costs

Determining whether a company’s costs are in line with those of rivals requires

Measuring how a company’s costs compare with those of rivals activity-by-activity

Requires having accounting data to measure cost
of each value chain activity

Activity-based costing entails

Defining expense categories according
to specific activities performed and

Assigning costs to the activity
responsible for creating the cost

Benchmarking  Costs  of
Key  Value  Chain  Activities

Focuses on cross-company comparisons of how certain activities are performed and costs associated with these activities

Purchase of materials

Payment of suppliers

Management of inventories

Getting new products to market

Performance of quality control

Filling and shipping of customer orders

Training of employees

Processing of payrolls

Translating Company Performance of
Value Chain Activities into Competitive Advantage

VC & Benchmarking are very powerful

Remedying an Internal Cost Disadvantage

 

Remedying a Supplier-Related Cost Disadvantage

 

Remedying a Cost Disadvantage associated with Activities performed by Forward Channel Allies

Is  the  Company  Stronger
or  Weaker  than  Key  Rivals?

Overall competitive position involves
answering two questions

How does a company rank relative
to competitors
on each important
factor that determines market success?

Does a company have a net
competitive advantage or disadvantage
vis-à-vis major competitors?

Assessing  a  Company’s
Competitive  Strength  vs.  Key  Rivals

1.  List industry key success factors and other relevant measures of competitive strength

2.  Rate firm and key rivals on each factor using rating scale of 1 to 10 (1 = very weak; 5 = average; 10 = very strong)

3.  Decide whether to use a weighted or unweighted rating system (a weighted system is superior because chosen strength measures are unlikely to be equally important)

4.  Sum individual ratings to get an overall measure of competitive strength for each rival

5.  Based on overall strength ratings, determine overall competitive position of firm

Good value chain analysis

Looks at where in the chain a firm adds value by being distinctive

Not a catalogue of everything firm does

new firm/new industry may be distinctive in many ways

established firm in mature industry likely to have few distinctive elements

Knowing where to look (beyond the obvious)

Making sure you think of everything

Culture

Google case study

Google case 1 (Harvard Business Review) Pages 863-883
Google case 2: (Gamble) Pages 884-903
Questions to prepare for:

For Week 4 (Week beginning Monday 17/10)

  1. What companies would you consider to be Google’s main competitors?
  2. Critically assess Google’s key performance indicators (KPI’s) and resources from 2006-2010.
  3. How do Google’s KPI’s and financial resources compare to their main competitors?

Strategic resources

Strategy

  • Resource based view (RBV) based on Penrose (1959) & Prahalad & Hamel (1990)
  • Build resources & capabilities
  • Sustainable CA
  • Short-term Vs. Long-term trade-offs
Comments:
banks have gone for high risk strategies and sort turn returns,
social capitalism such as the Scandinavian system should be the way. the lack of regulations from the government to protect.Agency problem: conflict between self interest in managers and overall organisational goals.

issues with bank at this time could be under lending, even with gov. help they are rejecting and thus could create an economic depression.

  • LTSV
Comments:
RBV Coach (fashion brand) with around 600% increase in their profit in the case study,
Does a company have the culture to increase their resources based view.
also determine how resource (money) can be acquire and the liquidity, a company has to determine if they have high cash reserves or invest their cash towards project.

“Shareholder value is a result not a strategy…..Your main constituencies are your customers, employees and products”

Jack Welch CEO GE Corp. 1981-2001 FT March (2009) 

Strategic Positioning

  • All Strategy involves differentiation from competitors. (Not the same as a ‘Differentiation Strategy’)
  • The quest for competitive advantage is to be better than most and possess core competencies
  • Strategic focus at the beginning when building a business model
  • Scaleability

Porter’s Generic Strategies
 Start focusing more on cost so to increase market share by creating more Marketing promotions and not touching the actual market price, then over time start removing promotions thus creating an illusion that we are not messing with the prices

Bowman’s Strategy Clock
 

Porter’s 6 Principles 

1. Stand for something

2. Focus on profitability

3. Offer consumers a unique set of benefits

4. Perform core activities differently

5. Specialise

6. Ensure that all activities reinforce the company’s strategy 

Stages of SP (strategic perspective)

  1. Internal business model and external position in market
  2. Competitor monitoring & analysis: Improvisation (Incremental approach). Repositioning (Radical approach)
  3. Diversification

KPI’s

 

EPS:

profit attributable to shareholders (after interest, tax, minority interests and everything else) divided by the number of shares in issue.

 

It is important because it tracks profit growth (or lack thereof) and share issue growth

Also used to calculate the P/E ratio which relates EPS to equity price trends

Return on Equity (ROE)

  • PBIT or Net Income/Total Shareholder Equity
  • Measure of relative profitability
  • A good comparator between companies in the same industry (Direct competitors)
  • Not a measure of Shareholder value like EPS but very useful for examining potential growth rates

Debt assessment

  • Acid test Ratio (Current Assets/Current Liabilities) is an important test of immediate liquidity
  • Gearing Ratio (Long Term Interest bearing debt/Total shareholder equity) is an important measure of sustainable debt & resource mobility
  • Important industry comparators

Conclusions

  • Strategic focus and building a business model to support this
  • Importance of the incremental approach to strategy
  • Monitoring KPI’s and aiming for LTSV
  • Year on year performance trends plus industry comparators
  • The importance of metrics to measure strategic success & failure

 

Global Strategy Business Game

A book must be purchased for next weeks seminar to gain access to the business game.

Strategic Perspective by Frances Mulleady

Exams are open book
Every week there will be a case study in the seminar which must be done and they are in the module book.

Group:

  • Julia Kravchuk – juliakravchu@gmail.com
  • Kyle Fraser-Allen – k.fraser-allen@my.westminster.ac.uk
  • Marco Tringali – marco_tringali@hotmail.com
  • Yingyu Chen – susancyy@hotmail.co.uk <<need to confirm
  • Flavio Longato – lon.flavio@gmail.com
Glo-bus Business Simulation
  • Strategy focused
  • Each team is an executive management group that takes over the running of a company that has been trading for 5 years.
  • All companies are in an identical position
  • Differentiate through strategic decisions made
  • One week of trading = 1 trading year
  • Submit decisions by end of each week (Sunday)
Gui-bus Breakdow
  • Group decisions 80%
  • – 10 years of trading (60%)
  • – 3 year strategic plan (20%)
Individual elements (20%)
  • Quiz 1 (5%)
  • Quiz 2 (10%)
  • Peer assessment ratings (5%)
Week 2
  • Go to www.glo-bus.com and ‘net students’ and begin ‘account registration process’.
  • Input the group code given to you by your tutor & then your individual code from your voucher.
  • Please input your details asa per SRS enrolment including student ID no. Don’t use nicknames.

Schmidt revision

Lecture 2 The Environment – Chapter 2

-macro-economics

-pestel

-key drivers & scenarios
environmental factores that are likely to have a high impact on success

– Five forces model

-strategic groups

-market segmentation
what is strategic customer?

-critical success factors

Lecture 6 Culture & Strategy – Chapter 5

Strategic drift is the tendency for strategies to develop incrementally on the basis of historical and cultural influences but fail to keep pace with a changing environment.

historical influences

?Managers’ organisational experience
?Avoiding recency bias
?Misattribution of success
?What if questions
?Detecting and avoiding strategic drift

cultural web
cultura influences
cultural web
management implications

Lecture 8 Corporate-Level Strategy – Chapter 7

Learning Outcomes

?Rank markets for entry or expansion, taking into account attractiveness, cultural, and other forms of distance and competitor retaliation threats

?Assess the relative merits of different market entry modes, including joint ventures, licensing, and foreign direct investment

International Strategy Framework
Internationalisation drivers
Sources of competitive advantage
Market selection
Mode of entry
PESTEL Framework
The CAGE Framework

Lecture 9 Strategy Methods & Evaluation – Ch 10

Lecture 11 The Practice of Strategy – Chapter 15

 

 

 

Business Strategy Final Exam

EXAMs:

Exam two parts

First part: Essay Questions

Second Part: Case study

Using theory to develop the case study and explain the:

  • Environment
  • competitors
  • Issues
  • resolution

Elaborate on your explanations, as their might not be a right or wrong but how you justify your awnsers

Porter five forces analysis

Porter’s five forces analysis is a framework for industry analysis and business strategy development developed by Michael E. Porter of Harvard Business School in 1979 . It uses concepts developed in Industrial Organization (IO) economics to derive 5 forces that determine the competitive intensity and therefore attractiveness of a market. Porter referred to these forces as the microenvironment, to contrast it with the more general term macroenvironment. They consist of those forces close to a company that affect its ability to serve its customers and make a profit. A change in any of the forces normally requires a company to re-assess the marketplace.

Strategy consultants use Porter’s five forces framework when making a qualitative evaluation of a firm’s strategic position. The framework is textbook material for modern business studies and therefore widely known.

Porter’s Five Forces include three forces from ‘horizontal’ competition: threat of substitute products, the threat of established rivals, and the threat of new entrants; and two forces from ‘vertical’ competition: the bargaining power of suppliers, bargaining power of customers.

Each of these forces has several determinants:

Porter's Five Forces Analysis

A graphical representation of Porters Five Forces

 

The threat of substitute products

The existence of close substitute products increases the propensity of customers to switch to alternatives in response to price increases (high elasticity of demand).

  • buyer propensity to substitute
  • relative price performance of substitutes
  • buyer switching costs
  • perceived level of product differentiation

The threat of the entry of new competitors

Profitable markets that yield high returns will draw firms. The results is many new entrants, which will effectively decrease profitability. Unless the entry of new firms can be blocked by incumbents, the profit rate will fall towards a competitive level (perfect competition).

  • the existence of barriers to entry (patents, rights, etc.)
  • economies of product differences
  • brand equity
  • switching costs or sunk costs
  • capital requirements
  • access to distribution
  • absolute cost advantages
  • learning curve advantages
  • expected retaliation by incumbents
  • government policies

The intensity of competitive rivalry

For most industries, this is the major determinant of the competitiveness of the industry. Sometimes rivals compete aggressively and sometimes rivals compete in non-price dimensions such as innovation, marketing, etc.

  • number of competitors
  • rate of industry growth
  • intermittent industry overcapacity
  • exit barriers
  • diversity of competitors
  • informational complexity and asymmetry
  • fixed cost allocation per value added
  • level of advertising expense

The bargaining power of customers

Also described as the market of outputs. The ability of customers to put the firm under pressure and it also affects the customer’s sensitivity to price changes.

  • buyer concentration to firm concentration ratio
  • bargaining leverage
  • buyer volume
  • buyer switching costs relative to firm switching costs
  • buyer information availability
  • ability to backward integrate
  • availability of existing substitute products
  • buyer price sensitivity
  • price of total purchase
  • RFM Analysis

The bargaining power of suppliers

Also described as market of inputs. Suppliers of raw materials, components, and services (such as expertise) to the firm can be a source of power over the firm. Suppliers may refuse to work with the firm, or e.g. charge excessively high prices for unique resources.

  • supplier switching costs relative to firm switching costs
  • degree of differentiation of inputs
  • presence of substitute inputs
  • supplier concentration to firm concentration ratio
  • threat of forward integration by suppliers relative to the threat of backward integration by firms
  • cost of inputs relative to selling price of the product

This 5 forces analysis is just one part of the complete Porter strategic models. The other elements are the value chain and the generic strategies.

 

Porter’s Five Forces

A MODEL FOR INDUSTRY ANALYSIS

The model of pure competition implies that risk-adjusted rates of return should be constant across firms and industries. However, numerous economic studies have affirmed that different industries can sustain different levels of profitability; part of this difference is explained by industry structure.

Michael Porter provided a framework that models an industry as being influenced by five forces. The strategic business manager seeking to develop an edge over rival firms can use this model to better understand the industry context in which the firm operates.

Diagram of Porter’s 5 Forces

SUPPLIER POWER
Supplier concentration
Importance of volume to supplier
Differentiation of inputs
Impact of inputs on cost or differentiation
Switching costs of firms in the industry
Presence of substitute inputs
Threat of forward integration
Cost relative to total purchases in industry
BARRIERS
TO ENTRY
Absolute cost advantages
Proprietary learning curve
Access to inputs
Government policy
Economies of scale
Capital requirements
Brand identity
Switching costs
Access to distribution
Expected retaliation
Proprietary products
RIVALRY THREAT OF
SUBSTITUTES
-Switching costs
-Buyer inclination to
substitute
-Price-performance
trade-off of substitutes
BUYER POWER
Bargaining leverage
Buyer volume
Buyer information
Brand identity
Price sensitivity
Threat of backward integration
Product differentiation
Buyer concentration vs. industry
Substitutes available
Buyers’ incentives
DEGREE OF RIVALRY
-Exit barriers
-Industry concentration
-Fixed costs/Value added
-Industry growth
-Intermittent overcapacity
-Product differences
-Switching costs
-Brand identity
-Diversity of rivals
-Corporate stakes

I. Rivalry

In the traditional economic model, competition among rival firms drives profits to zero. But competition is not perfect and firms are not unsophisticated passive price takers. Rather, firms strive for a competitive advantage over their rivals. The intensity of rivalry among firms varies across industries, and strategic analysts are interested in these differences.

Economists measure rivalry by indicators of  industry concentration. The Concentration Ratio (CR) is one such measure. The Bureau of Census periodically reports the CR for major Standard Industrial Classifications (SIC’s). The CR indicates the percent of market share held by the four largest firms (CR’s for the largest 8, 25, and 50 firms in an industry also are available). A high concentration ratio indicates that a high concentration of market share is held by the largest firms – the industry is concentrated. With only a few firms holding a large market share, the competitive landscape is less competitive (closer to a monopoly). A low concentration ratio indicates that the industry is characterized by many rivals, none of which has a significant market share. These fragmented markets are said to be competitive. The concentration ratio is not the only available measure; the trend is to define industries in terms that convey more information than distribution of market share.

If rivalry among firms in an industry is low, the industry is considered to be disciplined. This discipline may result from the industry’s history of competition, the role of a leading firm, or informal compliance with a generally understood code of conduct. Explicit collusion generally is illegal and not an option; in low-rivalry industries competitive moves must be constrained informally. However, a maverick firm seeking a competitive advantage can displace the otherwise disciplined market.

When a rival acts in a way that elicits a counter-response by other firms, rivalry intensifies. The intensity of rivalry commonly is referred to as being cutthroat, intense, moderate, or weak, based on the firms’ aggressiveness in attempting to gain an advantage.

In pursuing an advantage over its rivals, a firm can choose from several competitive moves:

  • Changing prices – raising or lowering prices to gain a temporary advantage.
  • Improving product differentiation – improving features, implementing innovations in the manufacturing process and in the product itself.
  • Creatively using channels of distribution – using vertical integration or using a distribution channel that is novel to the industry. For example, with high-end jewelry stores reluctant to carry its watches, Timex moved into drugstores and other non-traditional outlets and cornered the low to mid-price watch market.
  • Exploiting relationships with suppliers – for example, from the 1950’s to the 1970’s Sears, Roebuck and Co. dominated the retail household appliance market. Sears set high quality standards and required suppliers to meet its demands for product specifications and price.

The intensity of rivalry is influenced by the following industry characteristics:

  1. A larger number of firms increases rivalry because more firms must compete for the same customers and resources. The rivalry intensifies if the firms have similar market share, leading to a struggle for market leadership.
  2. Slow market growth causes firms to fight for market share. In a growing market, firms are able to improve revenues simply because of the expanding market.
  3. High fixed costs result in an economy of scale effect that increases rivalry. When total costs are mostly fixed costs, the firm must produce near capacity to attain the lowest unit costs. Since the firm must sell this large quantity of product, high levels of production lead to a fight for market share and results in increased rivalry.
  4. High storage costs or highly perishable products cause a producer to sell goods as soon as possible. If other producers are attempting to unload at the same time, competition for customers intensifies.
  5. Low switching costs increases rivalry. When a customer can freely switch from one product to another there is a greater struggle to capture customers.
  6. Low levels of product differentiation is associated with higher levels of rivalry. Brand identification, on the other hand, tends to constrain rivalry.
  7. Strategic stakes are high when a firm is losing market position or has potential for great gains. This intensifies rivalry.
  8. High exit barriers place a high cost on abandoning the product. The firm must compete. High exit barriers cause a firm to remain in an industry, even when the venture is not profitable. A common exit barrier is asset specificity. When the plant and equipment required for manufacturing a product is highly specialized, these assets cannot easily be sold to other buyers in another industry. Litton Industries’ acquisition of Ingalls Shipbuilding facilities illustrates this concept. Litton was successful in the 1960’s with its contracts to build Navy ships. But when the Vietnam war ended, defense spending declined and Litton saw a sudden decline in its earnings. As the firm restructured, divesting from the shipbuilding plant was not feasible since such a large and highly specialized investment could not be sold easily, and Litton was forced to stay in a declining shipbuilding market.
  9. A diversity of rivals with different cultures, histories, and philosophies make an industry unstable. There is greater possibility for mavericks and for misjudging rival’s moves. Rivalry is volatile and can be intense. The hospital industry, for example, is populated by hospitals that historically are community or charitable institutions, by hospitals that are associated with religious organizations or universities, and by hospitals that are for-profit enterprises. This mix of philosophies about mission has lead occasionally to fierce local struggles by hospitals over who will get expensive diagnostic and therapeutic services. At other times, local hospitals are highly cooperative with one another on issues such as community disaster planning.
  10. Industry Shakeout. A growing market and the potential for high profits induces new firms to enter a market and incumbent firms to increase production. A point is reached where the industry becomes crowded with competitors, and demand cannot support the new entrants and the resulting increased supply. The industry may become crowded if its growth rate slows and the market becomes saturated, creating a situation of excess capacity with too many goods chasing too few buyers. A shakeout ensues, with intense competition, price wars, and company failures.BCG founder Bruce Henderson generalized this observation as the Rule of Three and Four: a stable market will not have more than three significant competitors, and the largest competitor will have no more than four times the market share of the smallest. If this rule is true, it implies that:
    • If there is a larger number of competitors, a shakeout is inevitable
    • Surviving rivals will have to grow faster than the market
    • Eventual losers will have a negative cash flow if they attempt to grow
    • All except the two largest rivals will be losers
    • The definition of what constitutes the “market” is strategically important.

    Whatever the merits of this rule for stable markets, it is clear that market stability and changes in supply and demand affect rivalry. Cyclical demand tends to create cutthroat competition. This is true in the disposable diaper industry in which demand fluctuates with birth rates, and in the greeting card industry in which there are more predictable business cycles.


II. Threat Of Substitutes

In Porter’s model, substitute products refer to products in other industries. To the economist, a threat of substitutes exists when a product’s demand is affected by the price change of a substitute product. A product’s price elasticity is affected by substitute products – as more substitutes become available, the demand becomes more elastic since customers have more alternatives. A close substitute product constrains the ability of firms in an industry to raise prices.

The competition engendered by a Threat of Substitute comes from products outside the industry. The price of aluminum beverage cans is constrained by the price of glass bottles, steel cans, and plastic containers. These containers are substitutes, yet they are not rivals in the aluminum can industry. To the manufacturer of automobile tires, tire retreads are a substitute. Today, new tires are not so expensive that car owners give much consideration to retreading old tires. But in the trucking industry new tires are expensive and tires must be replaced often. In the truck tire market, retreading remains a viable substitute industry. In the disposable diaper industry, cloth diapers are a substitute and their prices constrain the price of disposables.

While the treat of substitutes typically impacts an industry through price competition, there can be other concerns in assessing the threat of substitutes. Consider the substitutability of different types of TV transmission: local station transmission to home TV antennas via the airways versus transmission via cable, satellite, and telephone lines. The new technologies available and the changing structure of the entertainment media are contributing to competition among these substitute means of connecting the home to entertainment. Except in remote areas it is unlikely that cable TV could compete with free TV from an aerial without the greater diversity of entertainment that it affords the customer.


III. Buyer Power

The power of buyers is the impact that customers have on a producing industry. In general, when buyer power is strong, the relationship to the producing industry is near to what an economist terms a monopsony – a market in which there are many suppliers and one buyer. Under such market conditions, the buyer sets the price. In reality few pure monopsonies exist, but frequently there is some asymmetry between a producing industry and buyers. The following tables outline some factors that determine buyer power.

Buyers are Powerful if: Example
Buyers are concentrated – there are a few buyers with significant market share DOD purchases from defense contractors
Buyers purchase a significant proportion of output – distribution of purchases or if the product is standardized Circuit City and Sears’ large retail market provides power over appliance manufacturers
Buyers possess a credible backward integration threat – can threaten to buy producing firm or rival Large auto manufacturers’ purchases of tires
Buyers are Weak if: Example
Producers threaten forward integration – producer can take over own distribution/retailing Movie-producing companies have integrated forward to acquire theaters
Significant buyer switching costs – products not standardized and buyer cannot easily switch to another product IBM’s 360 system strategy in the 1960’s
Buyers are fragmented (many, different) – no buyer has any particular influence on product or price Most consumer products
Producers supply critical portions of buyers’ input – distribution of purchases Intel’s relationship with PC manufacturers


IV. Supplier Power

A producing industry requires raw materials – labor, components, and other supplies. This requirement leads to buyer-supplier relationships between the industry and the firms that provide it the raw materials used to create products. Suppliers, if powerful, can exert an influence on the producing industry, such as selling raw materials at a high price to capture some of the industry’s profits. The following tables outline some factors that determine supplier power.


Suppliers are Powerful if: Example
Credible forward integration threat by suppliers Baxter International, manufacturer of hospital supplies, acquired American Hospital Supply, a distributor
Suppliers concentrated Drug industry’s relationship to hospitals
Significant cost to switch suppliers Microsoft’s relationship with PC manufacturers
Customers Powerful Boycott of grocery stores selling non-union picked grapes
Suppliers are Weak if: Example
Many competitive suppliers – product is standardized Tire industry relationship to automobile manufacturers
Purchase commodity products Grocery store brand label products
Credible backward integration threat by purchasers Timber producers relationship to paper companies
Concentrated purchasers Garment industry relationship to major department stores
Customers Weak Travel agents’ relationship to airlines


V. Barriers to Entry / Threat of Entry

It is not only incumbent rivals that pose a threat to firms in an industry; the possibility that new firms may enter the industry also affects competition. In theory, any firm should be able to enter and exit a market, and if free entry and exit exists, then profits always should be nominal. In reality, however, industries possess characteristics that protect the high profit levels of firms in the market and inhibit additional rivals from entering the market. These are barriers to entry.

Barriers to entry are more than the normal equilibrium adjustments that markets typically make. For example, when industry profits increase, we would expect additional firms to enter the market to take advantage of the high profit levels, over time driving down profits for all firms in the industry. When profits decrease, we would expect some firms to exit the market thus restoring a market equilibrium. Falling prices, or the expectation that future prices will fall, deters rivals from entering a market. Firms also may be reluctant to enter markets that are extremely uncertain, especially if entering involves expensive start-up costs. These are normal accommodations to market conditions. But if firms individually (collective action would be illegal collusion) keep prices artificially low as a strategy to prevent potential entrants from entering the market, such entry-deterring pricing establishes a barrier.

Barriers to entry are unique industry characteristics that define the industry. Barriers reduce the rate of entry of new firms, thus maintaining a level of profits for those already in the industry. From a strategic perspective, barriers can be created or exploited to enhance a firm’s competitive advantage. Barriers to entry arise from several sources:

  1. Government creates barriers. Although the principal role of the government in a market is to preserve competition through anti-trust actions, government also restricts competition through the granting of monopolies and through regulation. Industries such as utilities are considered natural monopolies because it has been more efficient to have one electric company provide power to a locality than to permit many electric companies to compete in a local market. To restrain utilities from exploiting this advantage, government permits a monopoly, but regulates the industry. Illustrative of this kind of barrier to entry is the local cable company. The franchise to a cable provider may be granted by competitive bidding, but once the franchise is awarded by a community a monopoly is created. Local governments were not effective in monitoring price gouging by cable operators, so the federal government has enacted legislation to review and restrict prices.The regulatory authority of the government in restricting competition is historically evident in the banking industry. Until the 1970’s, the markets that banks could enter were limited by state governments. As a result, most banks were local commercial and retail banking facilities. Banks competed through strategies that emphasized simple marketing devices such as awarding toasters to new customers for opening a checking account. When banks were deregulated, banks were permitted to cross state boundaries and expand their markets. Deregulation of banks intensified rivalry and created uncertainty for banks as they attempted to maintain market share. In the late 1970’s, the strategy of banks shifted from simple marketing tactics to mergers and geographic expansion as rivals attempted to expand markets.
  2. Patents and proprietary knowledge serve to restrict entry into an industry. Ideas and knowledge that provide competitive advantages are treated as private property when patented, preventing others from using the knowledge and thus creating a barrier to entry. Edwin Land introduced the Polaroid camera in 1947 and held a monopoly in the instant photography industry. In 1975, Kodak attempted to enter the instant camera market and sold a comparable camera. Polaroid sued for patent infringement and won, keeping Kodak out of the instant camera industry.
  3. Asset specificity inhibits entry into an industry. Asset specificity is the extent to which the firm’s assets can be utilized to produce a different product. When an industry requires highly specialized technology or plants and equipment, potential entrants are reluctant to commit to acquiring specialized assets that cannot be sold or converted into other uses if the venture fails. Asset specificity provides a barrier to entry for two reasons: First, when firms already hold specialized assets they fiercely resist efforts by others from taking their market share. New entrants can anticipate aggressive rivalry. For example, Kodak had much capital invested in its photographic equipment business and aggressively resisted efforts by Fuji to intrude in its market. These assets are both large and industry specific. The second reason is that potential entrants are reluctant to make investments in highly specialized assets.
  4. Organizational (Internal) Economies of Scale. The most cost efficient level of production is termed Minimum Efficient Scale (MES). This is the point at which unit costs for production are at minimum – i.e., the most cost efficient level of production. If MES for firms in an industry is known, then we can determine the amount of market share necessary for low cost entry or cost parity with rivals. For example, in long distance communications roughly 10% of the market is necessary for MES. If sales for a long distance operator fail to reach 10% of the market, the firm is not competitive.The existence of such an economy of scale creates a barrier to entry. The greater the difference between industry MES and entry unit costs, the greater the barrier to entry. So industries with high MES deter entry of small, start-up businesses. To operate at less than MES there must be a consideration that permits the firm to sell at a premium price – such as product differentiation or local monopoly.

Barriers to exit work similarly to barriers to entry. Exit barriers limit the ability of a firm to leave the market and can exacerbate rivalry – unable to leave the industry, a firm must compete. Some of an industry’s entry and exit barriers can be summarized as follows:


Easy to Enter if there is:

  • Common technology
  • Little brand franchise
  • Access to distribution channels
  • Low scale threshold
Difficult to Enter if there is:

  • Patented or proprietary know-how
  • Difficulty in brand switching
  • Restricted distribution channels
  • High scale threshold
Easy to Exit if there are:

  • Salable assets
  • Low exit costs
  • Independent businesses
Difficult to Exit if there are:

  • Specialized assets
  • High exit costs
  • Interrelated businesses

 

DYNAMIC NATURE OF INDUSTRY RIVALRY

Our descriptive and analytic models of industry tend to examine the industry at a given state. The nature and fascination of business is that it is not static. While we are prone to generalize, for example, list GM, Ford, and Chrysler as the “Big 3” and assume their dominance, we also have seen the automobile industry change. Currently, the entertainment and communications industries are in flux. Phone companies, computer firms, and entertainment are merging and forming strategic alliances that re-map the information terrain. Schumpeter and, more recently, Porter have attempted to move the understanding of industry competition from a static economic or industry organization model to an emphasis on the interdependence of forces as dynamic, or punctuated equilibrium, as Porter terms it.

In Schumpeter’s and Porter’s view the dynamism of markets is driven by innovation. We can envision these forces at work as we examine the following changes:

Top 10 US Industrial Firms by Sales 1917 – 1988

1917 1945 1966 1983 1988
1 US Steel General Motors General Motors Exxon General Motors
2 Swift US Steel Ford General Motors Ford
3 Armour Standard Oil -NJ Standard Oil -NJ (Exxon) Mobil Exxon
4 American Smelting US Steel General Electric Texaco IBM
5 Standard Oil -NJ Bethlehem Steel Chrysler Ford General Electric
6 Bethlehem Steel Swift Mobil IBM Mobil
7 Ford Armour Texaco Socal (Oil) Chrysler
8 DuPont Curtiss-Wright US Steel DuPont Texaco
9 American Sugar Chrysler IBM Gulf Oil DuPont
10 General Electric Ford Gulf Oil Standard Oil of Indiana Philip Morris

 

 

10 Largest US Firms by Assets, 1909 and 1987

1909 1987
1 US STEEL GM (Not listed in 1909)
2 STANDARD OIL, NJ (Now, EXXON #3) SEARS (1909 = 45)
3 AMERICAN TOBACCO (Now, American Brands #52) EXXON (Standard Oil trust broken up in 1911)
4 AMERICAN MERCANTILE MARINE (Renamed US Lines; acquired by Kidde, Inc., 1969; sold to McLean Industries, 1978; bankruptcy, 1986 IBM (Ranked 68, 1948)
5 INTERNATIONAL HARVESTER (Renamed Navistar #182); divested farm equipment FORD (Listed in 1919)
6 ANACONDA COPPER (acquired by ARCO in 1977) MOBIL OIL
7 US LEATHER (Liquidated in 1935) GENERAL ELECTRIC (1909= 16)
8 ARMOUR (Merged in 1968 with General Host; in 1969 by Greyhound; 1983 sold to ConAgra) CHEVRON (Not listed in 1909)
9 AMERICAN SUGAR REFINING (Renamed AMSTAR. In 1967 =320)
Leveraged buyout and sold in pieces)
TEXACO (1909= 91)
10 PULLMAN, INC (Acquired by Wheelabrator Frye, 1980; spun-off as Pullman-Peabody, 1981; 1984 sold to Trinity Industries) DU PONT (1909= 29)


GENERIC STRATEGIES TO COUNTER THE FIVE FORCES

Strategy can be formulated on three levels:

  • corporate level
  • business unit level
  • functional or departmental level.

The business unit level is the primary context of industry rivalry. Michael Porter identified three generic strategies (cost leadership, differentiation, and focus) that can be implemented at the business unit level to create a competitive advantage. The proper generic strategy will position the firm to leverage its strengths and defend against the adverse effects of the five forces.

 

References

//en.wikipedia.org/wiki/Porter_5_forces_analysis

//www.quickmba.com/strategy/porter.shtml