CH 2 STRATEGY ANALYSIS

Strategy Analysis Strategy analysis is an important starting point for the analysis of financial statements –Allows the analyst to probe the economics of a firm at a qualitative level Subsequent accounting and financial analysis is grounded in business reality –Allows the identification of the firm’s profit drivers and key risks Enables the analyst to assess the sustainability of the firm’s current performance and make realistic forecasts of future performance

Strategy Analysis (Cont’d) Firm’s profit potential is determined by its own strategic choices –Industry choice Industry analysis –Competitive positioning Competitive strategy analysis –Corporate strategy Corporate strategy analysis

INDUSTRY ANALYSIS Assess the profit potential of each industries in which the firm is competing because the profitability of various industries differ systematically and predictably over time Average profitability of an industry is influenced by the five forcesfive forces

5 Competitive Forces Competitive force 1: Rivalry among existing firms –Industry growth rate –Concentration and balance of competitors –Degree of differentiation and switching costs –Scale/learning economics and the ratio of fixed to variable costs –Excess capacity and exit barriers

5 Competitive Forces (Cont’d) Competitive force 2: Threat of new entrants –Economies of scale –First mover advantage –Access to channels of distribution and relationship –Legal barriers

5 Competitive Forces (Cont’d) Competitive force 3: Threat of substitute product –Relative price and performance of the competing product or service –Customers’ willingness to substitute Competitive force 4: Bargaining power of buyers –Price sensitivity –Relative bargaining power Competitive force 5: Bargaining power of suppliers

Competitive Strategy Analysis Competitive strategy 1: Cost leadership Competitive strategy 2: Differentiation Achieving and sustaining competitive advantage –Match between firm’s core competencies and key success factors to execute strategy –Match between firm’s value chain and activities required to execute strategy –Sustainability of competitive advantage

Corporate Strategy Analysis Many firms operate in multiple businesses. The optimal activity scope of firms depends on the relative transaction cost of performing a set of activities inside the firm versus using the market mechanism.