Managing Industry Competition Chapter 2 Managing Industry Competition Global Strategy Mike W. Peng Copyright © 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Outline Defining industry competition The five forces framework Three generic strategies Debates and extensions The savvy strategist Copyright © 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Defining Industry Competition A group of firms producing products (goods and/or services) that are similar to each other Theories of industry competition Perfect competition (rarely observed) Industrial organization (IO) economics model Industry structure determines strategy and firm performance (SCP model) Original goal-help regulators minimize firm’s excess profits Strategists use the IO model to try to earn excess profits Copyright © 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Five Forces Framework The Five Forces Framework “Translated” and extended from the SCP model in 1980 by Michael Porter A key proposition: The focal firm’s performance critically depends on the degree of competitiveness of the five forces within an industry The stronger and more competitive these forces are, the less likely the focal firm is able to earn above-average return, and vice versa Copyright © 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

The Five Forces Framework Copyright © 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Figure 2.1

Threats of the Five Forces Threats indicative of strong competitive forces that can Five forces depress industry profitability Rivalry among  A large number of competing firms competitors  Rivals are similar in size, influence, and product offerings  High-price, low-frequency purchases  Capacity is added in large increments  Industry slow growth or decline  High exit costs Threat of  Little scale-based low-cost advantages potential entry (economies of scale)  Little non-scale-based advantages  Inadequate product proliferation  Insufficient product differentiation  Little fear of retaliation  No government policy banning or discouraging entry Copyright © 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Table 2.1

Threats of the Five Forces (cont’d) Threats indicative of strong competitive forces that can Five forces depress industry profitability Bargaining power • A small number of suppliers of suppliers • Suppliers provide unique, differentiated products • Focal firm is not an important customer of suppliers • Suppliers are willing and able to vertically integrate forward Bargaining power • A small number of buyers of buyers • Products provide little cost savings or quality of life enhancement • Buyers purchase standard, undifferentiated products from focal firm • Buyers are willing and able to vertically integrate backward Copyright © 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Table 2.1 cont’d

Threats of the Five Forces (cont’d) Threats indicative of strong competitive forces that can Five forces depress industry profitability Threat of • Substitutes superior to existing products in quality and of substitutes quality and function • Switching costs to use substitutes are low Copyright © 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Table 2.1 cont’d

Five Forces Framework: Lessons from the Five Forces Framework Not all industries are equal in terms of their potential profitability The task for strategists is to assess the opportunities (O) and threats (T) underlying each competitive force affecting an industry, and then estimate the likely profit potential of the industry The challenge is to stake out a position that is strong and defensible relative to the five forces Copyright © 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Three Generic Competitive Strategies PRODUCT DIFFERENTIATION MARKET SEGMENTATION KEY FUNCTIONAL AREAS Cost Leadership Low (mainly by price) Low (mass market) Manufacturing, services, and logistics Differentiation High (mainly by uniqueness) High (many market segments) R&D, marketing, and sales Focus Extremely high Low (one of a few segments) R&D, marketing, and sales Copyright © 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Table 2.4

Three Generic Strategies: Cost Leadership Firm‘s theory about how to compete successfully centers on low costs and low prices Offer better value to customers Target average customers for mass market - little differentiation Key functional areas are manufacturing and materials management High volume, low margin approach Defense against five forces Relentless drive to cut costs might compromise value that customers desire Copyright © 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Three Generic Strategies: Differentiation Deliver products that customers perceive to be valuable and different Target customers in smaller, well-defined segments who are willing to pay premium prices Low volume, high margin approach Must have unique attributes (actual or perceived) - quality, sophistication, prestige, or luxury Challenge - identify attributes that are valued by customers in each market segment Key functional areas are research and development (source of innovation), marketing/sales, and after-sale services Copyright © 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Three Generic Strategies: Differentiation (cont’d) Defense against five forces Drawbacks Difficult to sustain differentiation in the long run Relentless efforts of competitors to duplicate differentiation Copyright © 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Three Generic Strategies: Focus Strategy Serving the needs of a particular segment or niche of an industry such as a geographical market, type of customer, or product line A specialized differentiator has a smaller, narrower, and sharper focus than a large differentiator A specialized cost leader deals with a narrower segment compared with the traditional cost leader Focusing may be successful when a firm possesses intimate knowledge about a particular segment Copyright © 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Three Generic Strategies: Lessons from the Three Generic Strategies The essence of the three strategic choices: Whether to perform activities differently or to perform different activities relative to competitors There are two fundamental strategic dimensions: cost and differentiation The key is to choose one dimension and execute on it consistently According to Porter, firms that are “stuck in the middle” either have no strategy or are drifting strategically However, this point is debatable Copyright © 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Debates and Extensions Clear versus blurred boundaries of industry Threats versus opportunities Five forces versus a sixth force (complementors) Stuck in the middle versus all rounder Industry rivalry versus strategic groups Integrating versus outsourcing Industry-specific versus firm-specific and institution-specific determinants of performance Copyright © 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Three Strategic Groups in the Global Automobile Industry Copyright © 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Figure 2.2

Strategic Groups and Ownership Types in the Chinese Electronics Industry DEFENDER ANALYZER REACTOR Ownership type State ownership Mixed Unstable Customer base Stable Mixed Changing Growth strategy Cautious Mixed Aggressive Managers Older, more conservative Mixed Younger, more aggressive Copyright © 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Source: Adapted from M. W. Peng, J. Tan, & T. Tong, 2004, Ownership types and strategic groups in an emerging economy (p. 1110), Journal of Management Studies, 41 (7): 1105–1129. Table 2.6

The Savvy Strategist For strategic practice, the industry-based view provides: A systematic foundation for industry analysis and competitor analysis, to which a more detailed examination, introduced in later chapters, can be added A set of answers to the four fundamental questions in strategy discussed in Chapter 1 Evidence that industry-specific conditions play an important role in determining firm performance Copyright © 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.