1. Chapter 7 Business Strategy and Competitive Advantage Copyright © 1999 by Harcourt Brace & Company All rights reserved. Requests for permission to make copies of any part of the work should be mailed to the following address: Permissions Department, Harcourt Brace & Company, 6277 Sea Harbor Drive, Orlando, Florida 32887-6777. Bourgeois, Duhaime, & Stimpert

2. Copyright © 1999 by Harcourt Brace & Company All rights reserved Chapter Objectives t Introduce the concept of generic business strategies: © Cost leadership. © Differentiation. © Focus. t Describe the organizational resources and capabilities associated with these strategies. © Suggest how managers can identify opportunities for reducing costs and differentiating their businesses.

3. Copyright © 1999 by Harcourt Brace & Company All rights reserved Chapter Objectives (cont.) t Identify and discuss the implication of generic business strategies. © Special challenges of commodity markets (tendency to compete on price alone). © Factors which limit effectiveness of differentiation strategies. Private-label competition. Discounting. Commoditization or tendency for differentiated products to lose their distinctiveness.

4. Copyright © 1999 by Harcourt Brace & Company All rights reserved IntroductionIntroduction t How managers formulate business strategies aimed at developing and sustaining competitive advantage. © Managerial thinking and decisions about business definition are interrelated. t Firms tend to pursue one of four different types of business strategies: © Prospectors: pursuing entrepreneurial exploration of their competitive environments with the aim of developing new product and market opportunities.

5. Copyright © 1999 by Harcourt Brace & Company All rights reserved Exhibit 7.1: Model of Strategic Management

6. Copyright © 1999 by Harcourt Brace & Company All rights reserved Introduction (cont.) © Defenders: seeking stability by maintaining current market positions and defending against encroachment by other firms. © Analyzers: balance the opportunity nature of prospectors against risk aversion of defenders; tend to draw most revenue from stable portfolio of products. © Reactors: characterized by inconsistencies and a reactionary response to environmental change. Not considered viable in long-run.

7. Copyright © 1999 by Harcourt Brace & Company All rights reserved Introduction (cont.) t Porter’s generic business strategies © Cost leadership © Differentiation © Focus

8. Copyright © 1999 by Harcourt Brace & Company All rights reserved Exhibit 7.2: Porter’s Generic Business Strategies Target Market

9. Copyright © 1999 by Harcourt Brace & Company All rights reserved Porter’s Generic Business Strategies (cont.) t Cost Leadership © Firms with lower costs than their competitors are likely to enjoy competitive advantage if they can maintain this cost advantage over time. © Firms pursuing this strategy will seek to exploit economies of scale and experience by maximizing sales volume.

10. Copyright © 1999 by Harcourt Brace & Company All rights reserved Porter’s Generic Business Strategies (cont.) t Cost Leadership (cont.) © Probably most effective in those industries or markets price is most important factor (over service, technology, or product characteristics). © Successful cost leaders develop competitive advantage by offering of comparable quality at lower prices than most industry competitors. Not the same as selling cheap merchandise or products perceived as inferior.

11. Copyright © 1999 by Harcourt Brace & Company All rights reserved Porter’s Generic Business Strategies (cont.) t Cost Leadership (cont.) © Successful cost leader does not always have to offer lowest prices. Customer perception is most important factor. © Firms following this strategy will seek to maximize market share.

12. Copyright © 1999 by Harcourt Brace & Company All rights reserved Porter’s Generic Business Strategies (cont.) t Cost leadership strategies are characterized by: © Capital-intensive manufacturing or production processes that reduce labor costs; © Process engineering skills that are aimed at lowering production costs; and © Products designed to be manufactured easily and products which share many common components. Leaders have developed sophisticated materials procurement and inventory management systems. Leaders usually have low-cost distribution systems.

13. Copyright © 1999 by Harcourt Brace & Company All rights reserved Porter’s Generic Business Strategies (cont.) t Firms which want to pursue cost leadership strategies should emphasize: © Close supervision of labor; © Tight cost controls; and © Incentives based on cost and quantitative targets. t Value chain concept is useful tool for managers using this strategy. See Exhibit 7.3

14. Copyright © 1999 by Harcourt Brace & Company All rights reserved Porter’s Generic Business Strategies (cont.) t Differentiation strategy © These firms aim to serve broad segment of market by offering products/services that are perceived as unique. Likely to work best with products/services that lend themselves well to differentiation. –Even commodities can be differentiated: Morton’s salt.

15. Copyright © 1999 by Harcourt Brace & Company All rights reserved Porter’s Generic Business Strategies (cont.) t Differentiation strategy (cont.) © It is the perception of differences that is most important -- not the actual characteristics of competing products. Customer perceptions can be fragile and short-lived. © Firms must develop strong marketing capabilities and a reputation for quality or uniqueness.

16. Copyright © 1999 by Harcourt Brace & Company All rights reserved Porter’s Generic Business Strategies (cont.) t Firms pursuing differentiation must also enhance their: © Creativity and research capabilities; © Coordination among R&D, marketing, and manufacturing; and © Ability to attract highly skilled labor, scientists, or creative people. t Value-chain analysis is helpful.

17. Copyright © 1999 by Harcourt Brace & Company All rights reserved Porter’s Generic Business Strategies (cont.) t Focus strategy © Targeted at narrow industry niche. © These firms seek overall cost leadership or perceived uniqueness, but they “focus” that advantage on a particular market segment. Thus, there are two possible focus strategies: focus differentiation (Rolls-Royce in ultra-luxury car market) and focus cost leadership. © Changes in customer demographics, competing products, and new technologies can wipe-out a narrow target market.

18. Copyright © 1999 by Harcourt Brace & Company All rights reserved Porter’s Generic Business Strategies (cont.) t “Stuck in the Middle” © Porter argued that some firms do not pursue any viable business strategy -- thus, they are stuck in the middle. © This happens for two reasons: They fail to pursue successfully any of the generic business strategies. Firms might attempt to pursue more than one generic strategy.

19. Copyright © 1999 by Harcourt Brace & Company All rights reserved Illustrations of Generic Business Strategies t Exhibit 7-5 © Cost leader While the successful cost leader’s product is priced just below industry average, its unit costs are much lower than industry average. © Successful differentiator Offers product that is perceived as unique. –Can charge prices higher than industry average. –May have costs higher than industry average.

20. Copyright © 1999 by Harcourt Brace & Company All rights reserved Illustrations of Generic Business Strategies (cont.) t Exhibit 7.6 © Wal-Mart Prototypical example of successful cost leader. –SGA expenses represent only 16% of revenues. © May Department Stores Successful differentiator –Higher SGA (19%), but higher ROS (6%) © Sears Stuck in the middle –Higher SGA and lower ROS

21. Copyright © 1999 by Harcourt Brace & Company All rights reserved Exhibit 7.7: Generic Strategies of Companies in Various Industries

22. Copyright © 1999 by Harcourt Brace & Company All rights reserved Efficiency/Effectiveness of Generic Strategies t None of Porter’s generic strategies is optimal for all companies. © Appropriate generic strategy for any firm will depend on its industry context, its business definition, and its capabilities. t Both cost leadership and differentiation strategies can be efficient (ratio of outputs to inputs) and effective (firm performance relative to average industry performance).

23. Copyright © 1999 by Harcourt Brace & Company All rights reserved Unattractive Characteristics of Commodity Markets t Even though they may be profitable, these markets tend to be less attractive and more challenging. © Competition in commodity markets is almost always vigorous. Primarily based on price. © Firms must become successful cost leaders or be able to differentiate their commodities. t Profits heavily impacted by business cycles. t Markets characterized by lack of customer loyalty.

24. Copyright © 1999 by Harcourt Brace & Company All rights reserved Observations on Price Competition t Not uncommon for price competition to deteriorate into all-out price wars. © Airlines in early 1990s. © GE and Westinghouse in 1950s. © Price wars are never a good idea! t Potential for escalation and “fixes that fail.”

25. Copyright © 1999 by Harcourt Brace & Company All rights reserved Exhibit 7.9: Escalation

26. Copyright © 1999 by Harcourt Brace & Company All rights reserved Exhibit 7.10: Fixes that Fail ProblemFix Unintended Consequences Delay

27. Copyright © 1999 by Harcourt Brace & Company All rights reserved Observations on Price Competition (cont.) t When confronted by aggressive price competition, managers need to be proactive. © Work with key customers to negotiate long-term contracts. © Signal to competitors that they are prepared to weather a protracted price war. © Work to differentiate your products. Customers will perceive your products as qualitatively better.

28. Copyright © 1999 by Harcourt Brace & Company All rights reserved Limits of Differentiation t Success of this strategy depends on two factors: © Consumers must value the product/service characteristics on which managers have based their differentiation strategies. © Key to success of any differentiation strategy is the ability of firms to maintain the perception of uniqueness in their products/services.

29. Copyright © 1999 by Harcourt Brace & Company All rights reserved Exhibit 7.11: Companies that Have Maintained Market Share Leadership Since the 1920s

30. Copyright © 1999 by Harcourt Brace & Company All rights reserved Exhibit 7.12: Product Categories that Have Been Immune to Private Label Invasion Category Baby food Beer Shaving cream Bar soap Deodorant Toothpaste Private Label Share 0.0% 0.1% 0.6% 0.8% 1.3% 2.0%

31. Copyright © 1999 by Harcourt Brace & Company All rights reserved Limits of Differentiation (cont.) t Differentiation strategies can be threatened by a number of factors: © Private-label and store brand competition are serious threats. © Discounting. © Gradual commoditization. Companies fail to invest in maintaining brand image. Companies have “crowded-out” their own products by introducing new products.

32. Copyright © 1999 by Harcourt Brace & Company All rights reserved Pursuit of Differentiation and Cost Leadership Strategies t Porter argues that firms pursuing both strategies will be “stuck in the middle.” There are, however, some exceptions. © Anheuser-Busch Enjoys significant cost advantage over its competitors. Has also been very successful differentiating its products. © Morton International Successful at both with its table salt.

33. Copyright © 1999 by Harcourt Brace & Company All rights reserved Pursuit of Differentiation and Cost Leadership Strategies © Japanese companies Canon and its photocopiers Toyota and its cars t While most managers today emphasize one of the generic strategies, there is always competition on both cost and differentiation.

34. Copyright © 1999 by Harcourt Brace & Company All rights reserved ConclusionsConclusions t Content versus process as sources of competitive advantage. © Ability of any strategy to provide competitive advantage comes not from content of strategy, but from the way the firm chooses to formulate and implement the strategy and the unique capabilities the firms develop. t Role of general managers © See Exhibit 7.14.

35. Copyright © 1999 by Harcourt Brace & Company All rights reserved Exhibit 7.14 : A “Mental Model” of Competitive Advantage

36. Copyright © 1999 by Harcourt Brace & Company All rights reserved Key Points Introduced in Chapter 7 t Cost leadership, differentiation, and focus represent three alternative generic business strategies. © Each generic strategy has its own set of organizational resources and capabilities. t Commodity markets, in which products or services of competing companies are perceived to have few differences, have several unattractive characteristics. © Most significant is that firms tend to compete on basis of price.

37. Copyright © 1999 by Harcourt Brace & Company All rights reserved Key Points Introduced in Chapter 7 (cont.) t Successful differentiation strategies require that: © Consumers value the product or service characteristics on which managers have based their differentiation strategies. © Firms can maintain perception of uniqueness that is vital to success of any differentiation strategy. t Factors that limit ability of firms to differentiate: © Competition from private-label and store brand products.

38. Copyright © 1999 by Harcourt Brace & Company All rights reserved Key Points Introduced in Chapter 7 (cont.) © Discounting, which tends to erode customers’ perception of product or service uniqueness and value. © Commoditization, or tendency for once- differentiated products to become commodity-like over time. t Competitive advantage is best derived by developing and possessing unique and difficult to imitate resources and capabilities.