Introducing Strategic Management

What we need for effective strategy: A mission A plan Elephants That’s the strategic process

How are you going to get there? Strategy defines…. Who are you? Where are you going? How are you going to get there? Alice: Which way should I go? Cat: That depends on where you are going. Alice: I don’t know where I am going. Cat: Then it doesn’t matter which way you go. Lewis Carroll, Though the Looking-Glass

Organizations should make two types of decisions 1) Strategic decisions 2) Strategically driven decisions

Organizations should make two types of decisions 1) Strategic decisions 2) Strategically driven decisions Company A Company B Company C

What are we doing here? All firms have strategy. The only decision is whether you manage it, or simply back into it… What are we doing here?

Strategic Management Defined decisions and actions required for the firm to create value and earn returns higher than those of competitors formulation and implementation of plans designed to achieve objectives unifying theme that gives coherence and direction to organizational/individual decisions game plan management has for positioning the company in its chosen market, competing successfully, satisfying customers, and achieving good business performance integrated and coordinated set of commitments and actions designed to exploit core competencies and gain a competitive advantage What is a competitive advantage?

Competitive Advantage When a firm implements a strategy that rivals can’t duplicate, or find it too expensive to do try to imitate

Competitive advantages become sustainable competitive advantages when rivals stop trying to replicate

The Strategic Management Process Strategic analyses Internal External Strategy Vision and mission Arenas Vehicles Differentiators Staging Economic logic Implementation levers and Strategic leadership Fundamental organizational purpose Organizational values The central, integrated, externally oriented concept of how a firm will achieve its objectives

? ? Two levels of Strategy Corporate-level strategy In which markets do we compete today? In which markets do we want to compete tomorrow? How does our ownership of a business ensure its competitiveness today and in the future? Business-level strategy ? How do we compete in this market today? How will we compete in this market in the future?

What is Strategy? Strategy is not doing similar activities better than your rivals – that’s operational effectiveness continual improvement not a sustainable advantage industry-wide cost reductions do not lead to increased profitability examples: PCs, automobiles, airlines

What is Strategy? 1) Strategy is performing different activities or performing similar activities in a different way Strategy is about positioning a) Variety-based positioning offering a unique choice of goods/services - Chic-fil-a, GameStop b) Needs-based positioning serving most/all of a particular group of customers’ needs - Babies R Us c) Access-based positioning serving a set of customers that require unique access – Kinkos, Movie Gallery, Superette

What is Strategy? Tradeoffs arise from 2) Strategy is about choosing a position which requires tradeoffs, choosing what not to do without tradeoffs, all firms would imitate Tradeoffs arise from inconsistent image/reputation different activities, products, equipment, employees, skills, systems, machines priorities, internal coordination, and control

What is Strategy? 3) Strategy is about combining activities as advantages come from fit and reinforcing Operational effectiveness is about excellence in individual activities Fit/integration increases sustainability by reducing imitability

What is Strategy? 4) The desire to grow is most threatening to an effective strategy Blurs uniqueness Creates compromises Reduces fit Erodes original advantages

Four Perspectives on Competitive Advantage Industrial/Organization (I/O) Economic Model – External Perspective Resource-Based View – Internal Perspective Dynamic Perspective – Combination of the two Stakeholder Approach Three Perspectives on Value Creation - Three strategic management models are used to organize the critical concepts and activities central to the strategic management process and to creating value (or above-average returns) for the firm.

The Industrial/Organization (I/O) Model of Above-Average Returns Basic Premise of the I/O Model – to explain the dominant influence of the external environment on a firm's strategic actions and performance The Industrial/Organization (I/O) Model of Above-Average Returns - This model for strategy development predicts value creation when strategy selection is dictated by the characteristics of the general, industry, and competitive environments. Four underlying assumptions to the model are identified and the Porter's Five-Forces Model is introduced. (Industry characteristics further developed in Chapter 3.)

The Industrial/Organization (I/O) Model of Above-Average Returns Underlying Assumptions That the external environment imposes pressures and constraints that determine the strategies resulting in above-average returns That most firms competing within a particular industry or industry segment control similar strategically relevant resources and pursue similar strategies in light of those resources There are four underlying assumptions to the I/O model. They are presented on slides 18 and 19. (See Additional Notes at the end of the slide 19.)

The Industrial/Organization (I/O) Model of Above-Average Returns Underlying Assumptions (cont.) That resources for implementing strategies are highly mobile across firms, and that due to this mobility any resource differences between firms will be short lived There are four underlying assumptions to the I/O model. They are presented on slides 18 and 19. Additional Discussion Notes for the I/O Model - These notes include additional materials that cover the assumptions underlying the model. Two examples of the McDonald’s and Starbucks organizations and their strategies are provided to illustrate the model. Four Assumptions of the I/O Model Both Crock and Schultz identified the strategy that allowed their companies to achieve high profits—McDonald’s through the “assembly line” of its burgers and Starbucks with product marketing that created ambiance and consistency, value perception that allowed it to charge higher premiums for its coffee. Both McDonald’s and Starbucks then spent time and capital to acquire and develop the skills needed to implement the business strategy. Crock became a business partner of the McDonald brothers and sold franchise agreements for them. Schultz took a position in the marketing department of Starbucks. Each later purchased the firm and used what they had learned to rapidly expand the company. Crock was able to use quality, consistency, rapid assembly system, and drive-thru concepts of McDonald’s to continue to realize high profits. Schultz was able to use the Starbucks image, ambiance concept, and marketing strengths to rapidly expand. One interesting note: Initially, Schultz started a Seattle coffeehouse chain (Il Giorande) that competed with Starbucks. His marketing manager was so adamant that Starbucks was a better concept capable of “going global” that Schultz sold his original coffeehouse chain and purchased Starbucks. I/O Model: McDonald’s and Starbucks Respectively, in both cases the CEOs Ray Crock and Howard Schultz were examining the industry in which they worked. Crock was a sales rep for a firm that built malted milkshake machines. Schultz was a sales rep for a company that made home espresso machine accessories. Both noticed that one particular customer was purchasing a large volume of these machines. They made trips to the locations of these stores and noticed that each was in an emerging industry that had high-growth potential and higher-than-average profit margins. McDonald’s is in fast-food and drive-thru restaurants, and Starbucks is in specialty coffee retail.

The Industrial/ Organization (I/O) Model of Above-Average Returns The I/O model suggests that above-average returns are earned when firms implement the strategy dictated by the characteristics of the general, industry, and competitor environments. Companies that develop or acquire the internal skills needed to implement strategies required by the external environment are likely to succeed, while those that do not are likely to fail. Hence, this model suggests that external characteristics rather than the firm’s unique internal resources and capabilities primarily determine returns. Research findings support the I/O model. They show that approximately 20 percent of a firm’s profitability is determined by the industry or industries in which it chooses to operate. This research also shows, however, that 36 percent of the variance in profitability could be attributed to the firm’s characteristics and actions. The results of the research suggest that both the environment and the firm’s characteristics play a role in determining the firm’s profitability. Thus, there is likely a reciprocal relationship between the environment and the firm’s strategy that affects the firm’s performance. As the research suggests, successful competition mandates that a firm build a unique set of resources and capabilities within the industry or industries in which the firm competes. Study the external environment, especially the industry environment. Economies of scale Barriers to entry Diversification Product differentiation Degree of concentration in the industry Locate an attractive industry with a high potential for above-average returns. One whose characteristics suggest above-average returns Identify the strategy called for by the attractive industry to earn above-average returns. Strategy formulation: selection of a strategy linked with above-average returns in a particular industry Develop or acquire assets and skills needed to implement the strategy. Assets and skills: those assets and skills required to implement chosen strategy Use the firm’s strengths (its developed or acquired assets and skills) to implement the strategy. Strategy implementation: select strategic actions linked with effective implementation of the chosen strategy. Result - Superior returns: earning of above-average returns.

The Industrial/Organization (I/O) Model of Above-Average Returns Michael Porter’s Five-Forces Model Reinforces the importance of economic theory Offers an analytical approach that was previously lacking in the field of strategy Describes the forces that determine the nature/level of competition and profit potential in an industry Suggests how an organization can use the analysis to establish a competitive advantage Michael Porter’s Five-Forces Model makes four contributions to the I/O Model: It reinforces the importance of economic theory It offers an analytical approach that was previously lacking in the field of strategy It describes the forces that determine the nature/level of competition and profit potential in an industry It suggests how an organization can use the analysis to establish a competitive advantage

The Resource-Based Model of Above-Average Returns Basic Premise of the Resource-Based Model – to propose that a firm's unique resources and capabilities should define its strategic actions and be used effectively to exploit opportunities in the external environment to ensure successful performance

The Resource-Based Model of Above-Average Returns Underlying Assumptions That the internal environment imposes pressures and constraints that determine the strategies resulting in above-average returns That most firms competing within a particular industry or industry segment control unique strategically relevant resources and pursue dissimilar strategies in light of those resources There are four underlying assumptions to the I/O model. They are presented on slides 18 and 19. (See Additional Notes at the end of the slide 19.)

The Resource-Based Model of Above-Average Returns Underlying Assumptions (cont.) That resources for implementing strategies are not highly mobile across firms, and that due to this immobility any resource differences between firms can be sustainable There are four underlying assumptions to the I/O model. They are presented on slides 18 and 19. Additional Discussion Notes for the I/O Model - These notes include additional materials that cover the assumptions underlying the model. Two examples of the McDonald’s and Starbucks organizations and their strategies are provided to illustrate the model. Four Assumptions of the I/O Model Both Crock and Schultz identified the strategy that allowed their companies to achieve high profits—McDonald’s through the “assembly line” of its burgers and Starbucks with product marketing that created ambiance and consistency, value perception that allowed it to charge higher premiums for its coffee. Both McDonald’s and Starbucks then spent time and capital to acquire and develop the skills needed to implement the business strategy. Crock became a business partner of the McDonald brothers and sold franchise agreements for them. Schultz took a position in the marketing department of Starbucks. Each later purchased the firm and used what they had learned to rapidly expand the company. Crock was able to use quality, consistency, rapid assembly system, and drive-thru concepts of McDonald’s to continue to realize high profits. Schultz was able to use the Starbucks image, ambiance concept, and marketing strengths to rapidly expand. One interesting note: Initially, Schultz started a Seattle coffeehouse chain (Il Giorande) that competed with Starbucks. His marketing manager was so adamant that Starbucks was a better concept capable of “going global” that Schultz sold his original coffeehouse chain and purchased Starbucks. I/O Model: McDonald’s and Starbucks Respectively, in both cases the CEOs Ray Crock and Howard Schultz were examining the industry in which they worked. Crock was a sales rep for a firm that built malted milkshake machines. Schultz was a sales rep for a company that made home espresso machine accessories. Both noticed that one particular customer was purchasing a large volume of these machines. They made trips to the locations of these stores and noticed that each was in an emerging industry that had high-growth potential and higher-than-average profit margins. McDonald’s is in fast-food and drive-thru restaurants, and Starbucks is in specialty coffee retail.

The Resource-Based Model of Above-Average Returns Figure 1.3 shows the resource-based model of superior returns. Instead of focusing on the accumulation of resources necessary to successfully use the strategy dictated by conditions and constraints in the external environment (I/O model), the resource-based view suggests that a firm’s unique resources and capabilities provide the basis for a strategy. The strategy chosen should allow the firm to effectively use its competitive advantages to exploit opportunities in its external environment. Identify the firm’s resources – strengths and weaknesses compared with competitors. Resources: inputs into a firm’s production process Determine the firm’s capabilities – what it can do better than its competitors. Capability: capacity of an integrated set of resources to integratively perform task or activity Determine the potential of the firm’s resources and capabilities in terms of a competitive advantage. Competitive advantage: ability of a firm to outperform its rivals Locate an attractive industry. Attractive industry: an industry with opportunities that can be exploited by the firm’s resources and capabilities Select a strategy that best allows the firm to utilize its resources and capabilities relative to opportunities in the external environment. Strategy formulation and implementation: strategic actions taken to earn above-average returns Results – Superior returns: earning of above-average returns. Additional Discussion Notes for the Resource-Based Model - These notes include additional material that discusses two axiomatic assumptions. First, resources are distributed heterogeneously across firms, and second, these resources cannot be transferred between firms without cost. Research references are included and extensive discussion here may help you present this concept. There is also discussion regarding “inventions” as an example of resources that are valuable, rare, hard to imitate, and not substitutable. Resource-based model: Patents and Inventions Resource-based view (RBV) of the firm is hedged on two axiomatic assumptions. First, resources are distributed heterogeneously across firms, and second, these resources cannot be transferred between firms without cost. These axioms lend themselves to two additional tenets (cf., Barney, 1991): (a) Resources that simultaneously enhance a firm’s market effectiveness (valuable) and are not widely dispersed (rare) can produce competitive advantage; and (b) when such resources are concurrently expensive to imitate (inimitable) and costly to substitute (nonsubstitutable), the competitive advantage is sustainable. Thus, both value and rarity are necessary before inimitability and nonsubstitutability might yield a sustainable competitive advantage (Priem & Butler, 2001). Despite its face validity and rapid diffusion throughout the management literature, there have only been limited empirical tests of RBV’s tenets (cf., Priem & Butler, 2001). To echo Miller and Shamsie (1996, p. 519), “the concept of resources remains an amorphous one that is rarely operationally defined or tested for its performance implications in different competitive environments.” Many managers use RBV’s terms with little specificity or attention to causal relationships. Researchers have identified several types of valuable and rare resources that could generate rents. Some examples include information technology (Powell, 1997), strategic planning (Powell, 1992), organizational alignment (Powell, 1992a), human resources management (Lado & Wilson, 1994; Wright & McMahan, 1992), trust (Barney & Hansen, 1994), organizational culture (Oliver, 1997), administrative skills (Powell, 1993), expertise of top management (Castanias & Helfat, 1991), and even Guanxicomplex networks (Tsang, 1998). The degree to which RBV is likely to help managers depends on the extent to which it can be used to achieve competitive advantage. Hence, recently, Markman and his colleagues have attempted to clarify three basic questions: (1) Can a single resource be simultaneously valuable, rare, inimitable, and nonsubstitutable? (2) Can an inimitable and nonsubstitutable resource be measured? And (3) To what extent is an inimitable and nonsubstitutable resource associated with competitive advantage? Using five-year data from 85 large, publicly traded pharmaceutical companies, Markman and his colleagues advance the view that a single resource-patented invention could qualify as simultaneously valuable, rare, hard to imitate, and difficult to substitute. In other words, the answer to the first question is yes; some patents are valuable, rare, inimitable, and nonsubstitutable resources. The answers to the second and third questions are “yes” as well. That is, controlling for assets, sales, and investment in R&D, they found that a patent’s quality and scope are significantly related to competitive advantage as captured by new products and, to some extent, to profitability. Four Attributes of Resources and Capabilities (Competitive Advantage) Despite these findings and the intuitive appeal of RBV, challenges remain. Priem and Butler (2001) noted that a resource that is valuable, rare, hard to imitate, and not substitutable is also difficult to assess, manipulate, or deploy, and therefore difficult to exploit. Their analytical assessment spurred an important debate regarding RBV’s practical utility. For example, tacit knowledge, organizational learning, workflow, time, interorganizational ties, communications, and human interactions might be seen as hard to imitate and nonsubstitutable resources, but such resources are neither necessarily rare nor inevitably valuable. Thus, while many “things” might be classified as resources, intangibles are less amenable to managerial manipulation, rendering their associations with competitive advantage tenuous. For example, tacit knowledge is frequently conceptualized as a source of competitive advantage, yet we don’t know how (and at what rate) managers create and use that which is inherently unknowable. Personnel, machinery, land, technical procedures, and financial capital are relatively easy to quantify resources. Brand names, however, and organizational knowledge, learning, and culture are extremely difficult to craft, use, measure, and manage. In sum, the practical utility of RBV to managers remains weak as long as we fail to explicitly parameterize and measure the extent to which certain resources are valuable, rare, inimitable, and nonsubstitutable.

Dynamic Perspective Market dynamism renders advantages temporary Future advantages based on the ability of the firms resources and capabilities to develop a continuous flow of advantages

The Stakeholder Model of Responsible Firm Behavior and Firm Performance Basic Premise of the Stakeholder Model – to propose that a firm can effectively manage stakeholder relationships to create a competitive advantage and outperform its competitors

The Three Stakeholder Groups There are three stakeholder groups of primary interests to a firm: Capital Market Stakeholders – major suppliers of capital Banks Private Lenders Venture Capitalists Product Market Stakeholders Primary customers Suppliers Host Communities Unions Organizational Stakeholders Employees Managers Nonmanagers

Secondary Stakeholders Government entities and administrators Activists and advocacy groups Religious organizations Other nongovernmental organizations There is a second tier of stakeholders (secondary to primary stakeholder groups) that should not be ignored.

The Stakeholder Model of Responsible Firm Behavior and Firm Performance Research supports the idea that firms that effectively manage stakeholder relationships outperform those that do not. This research implies that stakeholder relationships can be managed in such a way as to create competitive advantage (see Figure 1.5). The firm: Must maintain performance at an adequate level to retain the participation of key stakeholders Must determine how to divide the returns to keep stakeholders involved Must determine how to increase returns so everyone has more to share

Ways Stakeholder Relationships Contribute to Competitive Advantage A trustworthy reputation draws valuable customers, suppliers, and business partners to acquire or develop competitive resources A trustworthy reputation attracts investors to offer financial resources Firms that have fair and respectful treatment of employee relationships attract high-quality human resources Stakeholder relationships based on trust and mutual satisfaction of goals contribute to building a competitive advantage and improved business performance. Competitive advantage may come from a variety of sources. A firm that has excellent stakeholder relationships based on trust and mutual satisfaction of goals is more likely to obtain knowledge from them that can be used to make better strategic decisions. A firm’s ability to create value and earn high returns is compromised when strategic leaders fail to respond appropriately and quickly to changes in the complex global competitive environment. Also, strategic intelligence, the information firms collect from their network of stakeholders, can be used to help a firm deal with diverse and cognitively complex competitive situations. Evidence suggests that trust can be a source of competitive advantage, thereby supporting an organizational commitment to treat stakeholders fairly and with respect. Firms with trustworthy reputations draw customers, suppliers, and business partners to them. This can enhance firm performance by increasing the number of attractive business transactions from which a firm can select. Consequently, the firm may find it easier to acquire or develop competitive resources. For instance, investors may be more likely to buy shares in a company with a trustworthy reputation. In addition, workers may be attracted to employers who are known to treat their employees well. In addition to the resource advantages, the transaction costs associated with making and enforcing agreements are reduced because there is less need for elaborate contractual safeguards and contingencies. Of course, excellent stakeholder relationships also can enhance implementation of strategies because people are more committed to a course of action when they believe they have had some influence on the decision to pursue it, even if it is not exactly what they wanted the firm to do. Responsible behavior with regard to stakeholders such as government regulators, consumers, and employees can lead to intangible assets that buffer and protect a firm from negative actions such as adverse regulation, legal suits and penalties, consumer retaliation, strikes, walkouts, and bad press.

Ways Stakeholder Relationships Contribute to Competitive Advantage Transactions costs associated with making and enforcing agreements can be reduced Implementation of strategies can be enhanced by improving commitment from stakeholders who are involved with strategic decisions Responsible behavior can protect a firm from the expense and risk associated with negative actions (such as adverse regulations, legal suits and penalties, consumer dissatisfaction, employee work outages, or bad press) Stakeholder relationships based on trust and mutual satisfaction of goals contribute to building a competitive advantage and improved business performance. Competitive advantage may come from a variety of sources. A firm that has excellent stakeholder relationships based on trust and mutual satisfaction of goals is more likely to obtain knowledge from them that can be used to make better strategic decisions. A firm’s ability to create value and earn high returns is compromised when strategic leaders fail to respond appropriately and quickly to changes in the complex global competitive environment. Also, strategic intelligence, the information firms collect from their network of stakeholders, can be used to help a firm deal with diverse and cognitively complex competitive situations. Evidence suggests that trust can be a source of competitive advantage, thereby supporting an organizational commitment to treat stakeholders fairly and with respect. Firms with trustworthy reputations draw customers, suppliers, and business partners to them. This can enhance firm performance by increasing the number of attractive business transactions from which a firm can select. Consequently, the firm may find it easier to acquire or develop competitive resources. For instance, investors may be more likely to buy shares in a company with a trustworthy reputation. In addition, workers may be attracted to employers who are known to treat their employees well. In addition to the resource advantages, the transaction costs associated with making and enforcing agreements are reduced because there is less need for elaborate contractual safeguards and contingencies. Of course, excellent stakeholder relationships also can enhance implementation of strategies because people are more committed to a course of action when they believe they have had some influence on the decision to pursue it, even if it is not exactly what they wanted the firm to do. Responsible behavior with regard to stakeholders such as government regulators, consumers, and employees can lead to intangible assets that buffer and protect a firm from negative actions such as adverse regulation, legal suits and penalties, consumer retaliation, strikes, walkouts, and bad press.

Charting a Good Strategy The Strategy Diamond Arenas Vehicles Differentiators Staging & Pacing Economic Logic

Strategy Diamond Strategy is an integrated set of choices…. Arenas Economic Logic Staging Vehicles Differentiators

Arenas Where are we going to be active? Product categories Channels Market Segments Geographic Segments Core Technologies Value-creating strategies Arenas Economic Logic Staging Vehicles Differentiators

Vehicles How are we going to get there? Means of participating in chosen markets Internal Development Joint Venture Licensing/Franchising Alliances Acquisition Arenas Economic Logic Staging Vehicles Differentiators

Differentiators Product/service attributes that beat competitors, for example… Image Customization Price Styling Product reliability Speed to market Safety Arenas Economic Logic Staging Vehicles Differentiators

Staging Timing, pace and sequencing of strategic moves When to launch moves Function of resources, urgency and market signals Arenas Economic Logic Staging Vehicles Differentiators

Economic Logic How will returns be obtained? Low cost through scale, scope design, or process advantages Premium prices through superior products or service Arenas Economic Logic Staging Vehicles Differentiators

JetBlu’s Strategy Low-fare commercial airliner in underserved/overprices US markets, focusing on JFK Low-costs through uniform, fuel- efficient fleet, saving on maintenance, and training. Favorable gate fees at JFK. Secondary airports Arenas Focused initial growth in NE corridor, with westward expansion Economic Logic Completely internalized growth Staging Vehicles Differentiators Low price, mixed with exceptional service, e.g. leather seating and in-seat satellite TV

Framework for Strategy Implementation Key Factors of Strategy Implementation Implementation levers Organizational structure Systems and processes People and rewards Realized and Emergent Strategies Intended Strategy Strategic leadership Lever- and resource-allocation decisions Decision support among stakeholders