1 Chapter 7. Choosing A Profit Site: Dynamic Competitive Analysis

2 Outline  Once recognized the potential of innovation, where a firm position itself in a innovation value chain?  Profitability of a site is determined by: √ Industry attractiveness √ The firm’s capability √ Innovation cycle

3 Industry Attractiveness  Profitability is a function of the structure of industry and competition varies depending on the industry structure.  Porter’s 5 competitive forces  The threat of new entrants  The threat of substitute products or service  The bargaining power of suppliers  The bargaining power of buyers  The rivalry among existing competitors

4 Capabilities of a Firm  In the same industry firms with competitive advantage are more profitable.  Firms with capabilities hard to imitate can offer lower cost and more differentiated products underpinned by technological and market knowledge  Building scarce or difficult to imitate capabilities is central to its value configuration (value chain, value network, value shop)

5 One Problem with Industry Analysis  The profit picture on industry attractiveness changes  When structural changes occur Regulation and deregulation, customer expectations,  When technological discontinuity occurs Changes in the underlying knowledge  Firms need to concern the dynamic changes in the market.  Analysis based on evolution of the market  The innovation evolves interacting with the environment.  Capability to provide different products in different phase  A firm’s heterogeneous capability in the latter part of the evolution depends on its strategies, capabilities, and market positioning early in the life of innovation.

6 Dynamic Innovation Model Revisited  Recall the Utterback-Abernathy dynamic model and Thsuman-Rosenkopf Model in chapter 2  Fluid phase, Transitional phase, Specific phase  Technological discontinuity, Era of ferment, Era of incremental change  Fluid phase (Era of ferment)  A lot of product and market uncertainty Manufacturers do not know what should be in the product Customers do not know what they want in the product Competition between old and new technology Design competition using the new technology Manufacturers interact with local environments of suppliers, customers, complementary innovators and competitors

7 Dynamic Innovation Model Revisited  Transitional phase (Dominant design)  Some standardization of Components, market needs, product design features  Dominant design emerges  A substantial reduction in uncertainty  Experimentation and major design changes  Specific phase (Era of incremental change)  Products based on dominant design  More emphasis on process innovation with incremental product innovation  Differences between the competitor’s product is fewer than similarities.  Repeats the pattern starting with discontinuity

8 A Solution  Dynamic innovation has a direct effect on industry structure.  Fluid phase Rapid entry of firms with very few or no failures  Transitional phase (Emergence of dominant design) The rate of exits increases, reducing the number of competitors However, the standard is not fixed, entry will rise  Specific phase The market reaches point of stability A few firms having standardized or slightly differentiated products Relatively stable sales and market shares  Example  P137 figure 7.1 supercomputer industry

9 A Solution  The attractiveness of an industry is a function of  5 forces in the present phase  Competences of the firm  Actions it took in the previous phase  A Profit Site Attractiveness Model  3-step dynamic competitive analysis process 1. Analyze the pressures by porter’s 5 forces to determine the industry’s attractiveness 2. Evaluate whether its competences and endowment meets the level and quality needed to be successful in each phase 3. Take strategic steps at each phase anticipating the nature of next phase

10 A Profit Site Attractiveness Model  Industry Attractiveness  Fluid Phase (Era of Ferment) Highly differentiated and niche market Rivalry among existing competitors is not as high as in later phase More new entrants increases rivalry in niche market, especially if technological discontinuity destroys incumbent’s competences Bargaining power of suppliers is low since materials and equipments are general purpose Bargaining power of customers is high since buyers are leading users and products are highly differentiated Threat of substitutes comes largely from old technology Strategy Invest in helping its own design emerge as a dominant design Especially effective if network externality is important Follower tends to concentrate on its complementary assets rather than competing for a dominant design Ex) Sun’s licensing SPARC technology

11 A Profit Site Attractiveness Model  Industry Attractiveness  Transitional Phase (Dominant Design) Product and marker uncertainties are reduced Rivalry among existing competitors is high as winners of dominant design scramble to win new customers with differentiated products Threat of new entrants is high if dominant design is open but low it is proprietary Bargaining power of suppliers increases since materials and equipments are more specialized Bargaining power of customers increases since dominant design allows differentiated but not unique product Threat of substitutes becomes higher since products are less oriented to niche Strategy Strategic alliances or licensing help to win dominant design Investment in R&D of process, capacity, advertisement, and brand name Acquire intellectual property rights or special contracts with suppliers for key factors for production

12 A Profit Site Attractiveness Model  Industry Attractiveness  Specific Phase (Era of incremental change) A few competitors, oligopolistic market, irreversible investment Rivalry among existing competitors is high in incremental change. Signals to stay in business with heavy investment Threat of new entrants decreases Incumbents have licenses and patents, deepen the knowledge, established brand name, price war technology destroying entrants are the biggest threat Bargaining power of suppliers increases since they supply specialized component and equipment and are major source of innovation Bargaining power of customers increases since products are commodity Threat of substitutes comes from generic or new technology Strategy Low cost strategy, market positioning, mass customization Investment in capacity and brand name Prepare for the technology discontinuity

13 A Profit Site Attractiveness Model  Industry Attractiveness  Discontinuities Old technology and established barriers may become obsolete. Rivalry among existing competitors gets higher as new technology replaces old. Threat of new entrants is high since incumbent’s capabilities becomes useless or even handicap. Bargaining power of suppliers drops as demand on specialized equipment and materials changed to demand on general purpose equipment and materials. Bargaining power of customers increases as new fluid phase begins. Threat of substitutes is very high Strategy Identify leading customers and try to work out joint developments. Ensure compatibility with the old product when network externalities are important.

14 A Profit Site Attractiveness Model  Capabilities In each phase,  Determining what kind of assets and competences are necessary to stake out a profitable market position  Examining the firm’s own assets and competences to see competitive advantages  Establishing strategies to build assets and competences

15 A Profit Site Attractiveness Model  Capabilities  Fluid Phase Incumbent may have problem due to a competence destroying technological change. - Perception of attractiveness may be biased by the past history. NCR failed to recognize better use of the electronic register except fast calculation. - Decisions should be made independent of previous experience. Ability to translate customer needs to product is a good competence Skilled people, good relationships with suppliers and customers are valuable asset. Strategy Offensive firms focus on building capabilities to win the dominant design. Defensive firms focus on building the absorptive capacity for quick imitation.

16 A Profit Site Attractiveness Model  Capabilities  Transitional Phase What features to include in the product => How to improve the values of those features Product innovation skill => process innovation skill Supplier relationship becomes more important due to specialized equipment. Need for customer relationship also increases. (niche=>differentiated) Strong reputation help to win the dominant design. Strategy Strategic maneuvering to win the dominant design and standards. Customer and supplier-focused competences are valuable.

17 A Profit Site Attractiveness Model  Capabilities  Specific Phase Emphasis is on the low cost obtained by process and incremental product innovation. Source of process innovation is major suppliers of specialized equipment who have high bargaining power. => close relationship is necessary Incremental product innovation requires skills built on existing capabilities => incumbents have advantage Customer-focused capabilities such as brand name, reputation, A/S network, distribution channel, user networks, ability to synthesize customer needs into product attributes and language that product developers can implement technologically are invaluable Strategy Balancing the act of exploiting current technology and getting ready for the upcoming competence destroying technological discontinuity is important, since current assets and competencies may become obsolete.

18 A Profit Site Attractiveness Model  Capabilities  Discontinuities Not all the competences become obsolete by a technological discontinuity. - competence enhancing if the capabilities required build on those used to exploit the previous technology - otherwise, competence destroying Ability to recognize which capabilities becomes obsolete and which is not can be an asset Strategy Recognize the potential of threats and opportunities that the discontinuity presents. Unlearn the old knowledge that may be a handicap. Acquire the skills to cope with product innovations

19 A Profit Site Attractiveness Model  Some Cautions  Model is just a model.  Understand underlying assumptions. Innovation evolves in a predictable way with phases. Major process innovation comes after product innovation. - Sometimes, process innovation takes place before product innovation. - Hard to tell process innovation or product innovation Dominant design does not always emerge. Among Porter’s 5 forces, suppliers, customers, and competitors increase the cost, pay us low price, and take away our market. - they are also source of our innovation - sometimes a firm can make profit in unattractive market  This model is just one approach.

20 Practice Case : PC  PC Innovation Value-Added Chain (Read pp ) Independent software vendor (ISVs) Microsoft, Novell, Oracle, Ashton Tate Suppliers Intel AMD NextGen Samsung Hynix Micron NEC Toshiba Fujitsu Motorola Segate Western digital Manufacturers Compaq IBM Apple Dell Gateway Packard Bell AST research HP Retailers Sears Wal-mart NCR End users Company Government You