McGraw-Hill/Irwin Copyright © 2010 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 1: What is Strategy and Why is it Important? Screen graphics created by: Jana F. Kuzmicki, Ph.D. Troy University

“Strategy means making clear-cut choices about how to compete.” Jack Welch Former CEO, General Electric

“Without a strategy the organization is like a ship without a rudder.” Joel Ross and Michael Kami

1-4 Chapter Learning Objectives 1. Understand the role of business strategies in moving a company in the intended direction, growing its business, and improving its financial and market performance. 2. Develop an awareness of the four most reliable strategic approaches for setting a company apart from rivals and winning a sustainable competitive advantage. 3. Learn that business strategies evolve over time because of changing circumstances and ongoing management efforts to improve the company’s strategy. 4. Understand why a company’s strategy must underpinned by a business model that produces revenues sufficient to cover costs and earn a profit. 5. Gain awareness of the three tests that distinguish a winning strategy from a so-so or flawed strategy. 6. Learn why good strategy and good strategy execution are the most trustworthy signs of good management.

1-5 Chapter Roadmap What Do We Mean by “Strategy?” Strategy and the Quest for Competitive Advantage Identifying a Company’s Strategy Why a Company’s Strategy Evolves Over Time A Company’s Strategy Is Partly Proactive and Partly Reactive Strategy and Ethics: Passing the Test of Moral Scrutiny The Relationship Between a Company’s Strategy and Its Business Model What Makes a Strategy a Winner? Why Are Crafting and Executing Strategy Important?

1-6 Thinking Strategically: The Three Big Strategic Questions 1. What’s the company’s present situation? 2. Where does the company need to go from here?  Business(es) to be in and market positions to stake out  Buyer needs and groups to serve  Direction to head 3. How should it get there?  A company’s answer to “how will we get there?” is its strategy

1-7 What Do We Mean By “Strategy?” Consists of competitive moves and business approaches used by managers to run the company Management’s “action plan” to  Grow the business  Attract and please customers  Compete successfully  Conduct operations  Achieve the targeted levels of organizational performance

1-8 The Hows That Define a Firm's Strategy How to grow the business How to please customers How to outcompete rivals How to manage each functional piece of the business (R&D, production, marketing, HR, finance, and so on) How to respond to changing market conditions How to achieve targeted levels of performance Strategy is HOW to...

1-9 Choosing the “Hows” of Strategy Strategic choices about “how” are based on  Trial-and-error organizational learning about what has worked and what has not worked  Management’s appetite for taking risks  Managerial analysis and strategic thinking about how best to proceed, given market conditions and a company’s circumstances In choosing a strategy, management is in effect saying, “Among all the many different ways of competing we could have chosen, we have decided to employ this combination of competitive and operating approaches to move the company in the intended direction, strengthen its market position and competitiveness, and boost performance.”

1-10 Key Elements of a Successful Strategy Developing a successful strategy hinges on making competitive moves aimed at  Appealing to buyers in ways to set the company apart from rivals and  Carving out its own market position Involves developing a distinctive “aha” element to  Attract customers and  Produce a competitive edge Copying competitive moves of other successful companies rarely works!

1-11 Starbucks’ Strategy: The Key Elements Expand number of Starbucks stores domestically by blanketing metropolitan areas, then adding stores on the city’s perimeter Make Starbucks a global brand by opening stores in an increasing number of foreign locations View each store as a billboard for the company and as a contributor to building the company’s brand and image Broaden in-store products to include coffee-flavored ice cream, teas, fresh pastries, music CDs, and coffee accessories Fully exploit the growing power of the Starbucks’ name and brand image with out-of-store sales Display corporate responsibility and environmental sustainability Control costs of opening new stores Promote customer-friendly service and enhance store ambience by making Starbucks a great place to work

1-12 For Discussion: Your Opinion From your perspective as a consumer, does Starbucks’ strategy (described in Illustration Capsule 1.1) seem to be well-matched to industry and competitive conditions? 1. Does the strategy seem to be keyed to a cost advantage, differentiating features, serving the unique needs of a niche, or developing resource strengths and competitive capabilities rivals can’t imitate or trump (or a mixture of these)? 2. What is there about Starbucks’ strategy that can lead to sustainable competitive advantage?

1-13 Strategy and the Quest for Competitive Advantage The heart and soul of any strategy are actions a company makes to  Improve its financial performance,  Strengthen its competitive position, and  Gain a competitive advantage over rivals A creative, distinctive strategy that sets a company apart from rivals and yields a competitive advantage is a company’s most reliable ticket to above average profitability  Operating with a competitive advantage is more profitable than operating without one  Operating with a competitive disadvantage nearly always results in below-average profitability

1-14 A Powerful Strategy Leads to Sustainable Competitive Advantage A company achieves sustainable competitive advantage when  An attractive number of buyers prefer its products/services over those of rivals and  The basis for this preference is durable Its nice when a strategy produces  A temporary competitive edge but  A sustainable edge over rivals greatly enhances a company’s prospects for above-average profitability What separates a powerful strategy from an ordinary strategy is management’s ability to forge a series of moves, both in the marketplace and internally, that produces sustainable competitive advantage!

1-15 Strategic Approaches to Building Sustainable Competitive Advantage Be the industry’s low-cost provider  Achieve a cost-based competitive advantage Incorporate differentiating features  Superior product/service keyed to higher quality, better performance, wider selection, value-added services, or some other attribute Focus on a narrow market niche  Win a competitive edge by doing a better job than rivals of serving the needs and preferences of buyers in the niche Develop expertise and resource strengths not easily imitated or matched by rivals  Achieve a capabilities-based competitive advantage

1-16 Competitive Advantage Examples Strive to be industry’s low-cost provider  Wal-Mart  Southwest Airlines Outcompete rivals on a key differentiating feature  Johnson & Johnson – Reliability in baby products  Harley-Davidson – King-of-the-road styling  Rolex – Top-of-the-line prestige  BMW– Engineering design and performance  Amazon.com – Wide selection and convenience Amazon.com

1-17 Competitive Advantage Examples (con’t) Focus on a narrow market niche  eBay – Online auctions  Best Buy – Home electronics  McAfee – Virus protection  Starbucks – Premium coffees and coffee drinks  The Weather Channel – Info about the weather Develop expertise, resource strengths, and capabilities not easily imitated by rivals  Walt Disney – Theme park management and family entertainment  Dell Computer – Build-to-order manufacturing capabilities  Ritz-Carlton – Personalized customer service

Figure 1.1: Identifying a Company’s Strategy 1-18

1-19 Test Your Knowledge A company’s strategy and its quest for competitive advantage are tightly related because A. a company’s strategy determines whether it will have lower or higher costs than rivals and thus be at a competitive advantage or disadvantage. B. competitive advantage is essential to having a profitable business model. C. choosing a competitive advantage to pursue also helps a company choose which business model is most appropriate. D. competitive advantage enables a company to achieve its strategic objectives. E. a strategy that leads to sustainable competitive advantage is a company’s most reliable means of achieving above-average profitability and financial performance.

1-20 Why Do Strategies Evolve? A company’s strategy is a work in progress Changes may be necessary to react to  Financial crisis  Fresh moves of competitors  Evolving customer preferences  Technological breakthroughs  Emerging market opportunities  Changing political or economic climate  New ideas to improve strategy

Figure 1.2: A Company’s Strategy Is a Blend of Proactive Initiatives and Reactive Adjustments 1-21

1-22 Linking Strategy With Ethics Ethical and moral standards go beyond  Prohibitions of law and language of “thou shalt not” to issues of  Duty and “right” vs. “wrong” Ethical and moral standards address “What is the right thing to do?” Two criteria of an ethical strategy  Does not entail actions and behaviors that cross the line from “should do” to “should not do” (because such actions are unsavory, shady, unconscionable, injurious to others, or harmful to the environment)  Allows management to fulfill its ethical duties to all stakeholders

A Firm’s Ethical Responsibilities to Its Stakeholders Owners/shareholders – Rightfully expect some form of return on their investment Employees – Rightfully expect to be treated with dignity and respect for devoting their energies to the enterprise Customers – Rightfully expect a seller to provide them with a reliable, safe product or service Suppliers – Rightfully expect to have an equitable relationship with firms they supply and be treated fairly Community – Rightfully expect businesses to be good citizens in their community 1-23

1-24 Role of Senior Executives: Linking Strategy with Ethics Forbid pursuit of ethically questionable business opportunities Insist all aspects of company strategy reflect high ethical standards Make it clear that all employees are expected to act with integrity Install organizational checks and balances to  Monitor behavior  Enforce ethical codes of conduct  Provide guidance to employees in gray areas Display genuine commitment to conduct business activities ethically

1-25 Test Your Knowledge A company's strategy can be considered “ethical” A. if all of its different actions and elements are legal and in compliance with governmental rules and regulations. B.so long as its actions and behaviors can pass the test of “moral scrutiny” and are aboveboard in the sense of not being shady or unconscionable, injurious to others, or unnecessarily harmful to the environment. C.only if all elements of the strategy are in accord with what is generally considered as being in the overall best interests of society at large. D.so long as religious authorities and noted ethics experts find nothing “wrong” in the company’s actions. E.if it is in compliance with the company’s code of ethics and has been approved by the company’s chief ethics officer.

1-26 What Is a Business Model? A business model addresses “How do we make money in this business?”  Is the company’s strategy capable of delivering good bottom-line results? Do the revenue-cost-profit economics of the strategy make good business sense?  Look at revenue streams the strategy is expected to produce  Look at associated cost structure and potential profit margins  Do resulting earnings streams and ROI indicate the strategy has good potential to deliver acceptable profitability?

Relationship Between Strategy and Business Model Strategy... Deals with a company’s competitive initiatives and business approaches Business Model... Concerns whether revenues and costs flowing from the strategy demonstrate a business can be profitable and viable Strategy Business Model 1-27

Microsoft’s Business Model Employ a cadre of highly skilled programmers to develop proprietary code; keep source code hidden from users Sell resulting OS and software packages to PC makers and users at relatively attractive prices to achieve a 90% or more market share Most costs in developing software are fixed; variable costs are small; once break-even volume is reached, revenues from additional sales are almost pure profit Provide modest level of technical support to users at no cost Rejuvenate revenues by periodically introducing next-generation software with features inducing PC users to upgrade their operating systems 1-28

Red Hat’s Business Model Rely on collaborative efforts of volunteer programmers to create the software Collect and test enhancements and new applications submitted by volunteer programmers for evaluation and inclusion in new releases of Linux Market upgraded and tested family of Red Hat products to large companies, charging a subscription fee that includes 24/7 support within 1 hour in 7 languages Make source code open and available to all users Capitalize on specialized expertise required to use Linux by providing fee-based training, consulting, software customization, and client- directed engineering to Linux users 1-29

1-30 Test Your Knowledge The nitty-gritty issue surrounding a company’s business model is whether A. the strategy is capable of producing sustainable competitive advantage. B.it matches the company’s external and internal situation. C.the chosen strategy makes good business sense from a money-making perspective. D.the company’s strategy and strategic moves are mostly proactive. E.the company’s strategy stands a really good chance of hitting a home-run in the marketplace.

1-31 For Discussion: Your Opinion Who has the best business model – Microsoft or Red Hat?

1-32 Tests of a Winning Strategy GOODNESS OF FIT TEST  How well does the strategy fit the company’s external and internal situation? COMPETITIVE ADVANTAGE TEST  Is the strategy helping the company achieve a sustainable competitive advantage? PERFORMANCE TEST  Is the strategy resulting in better company performance?

1-33 Other Criteria for Judging Merits of a Strategy Degree of risk the strategy poses as compared to alternative strategies Degree to which the strategy is flexible and adaptable to changing circumstances While these criteria are relevant, they seldom override the importance of the three tests of a winning strategy!

1-34 Why Should Crafting and Executing Strategy Be Top-Priority Management Tasks? A compelling need exists for managers to proactively shape how a firm’s business will be conducted A strategy-focused firm is more likely to be a strong bottom-line performer than one that views strategy as secondary

1-35 Good Strategy + Good Strategy Execution = Good Management Crafting and executing strategy are core management functions Among all things managers do, nothing affects a company’s ultimate success or failure more fundamentally than how well its management team  Charts a company’s direction,  Develops competitively effective strategic moves and business approaches, and  Pursues what needs to be done internally to produce good day-in/day-out strategy execution Excellent execution of an excellent strategy is the best test of managerial excellence – and the most reliable recipe for winning in the marketplace!