Strategic management
Chapter 1: Introduction to strategic management
Strategic Leadership: managing the strategy making process for competitive advantage.
Strategy: a set of related actions that managers take to increase their company’s performance.
If a company’s strategies result in superior performance, it is said to have a competitive advantage.
Strategic leadership: cfeating competitive advantage through effective management of the strategy making
process.
Strategic formulation: selecting strategies based on analysis of an organization’s external and internal
environment.
Strategic implementation: putting strategies into action.
Strategic leadership, competitive advantage and superior performance
To increase shareholder value, managers, must pursue strategies that increase the profitability of the company
and ensure that profits grow. To do this, a company must be able to outperform its rivals: it must have a
competitive advantage.
Superior Performance
Refers to the returns that shareholders earn from purchasing shares in a company. They come from two
sources:
- Capital appreciation in the value of a company’s shares.
- Dividend payments
Risk capital: equity capital invested with no guarantee that stockholders will recoup their cash or earn a decent
return.
Chapter 2: External Analysis: the identification of opportunities and threats
External analysis identifies the company’s industry
Opportunities and threats:
- Strengths
- Weaknesses
- Opportunities: elements in a company’s environment that allow it to formulate and implement strategies to
become more profitable
- Threats: elements in the external environment that could endanger a firm’s integrity and profitability
Defining an industry
Industry: group of companies offering products or services that are close substitutes for each other
Products or service satisfy the same basic customer needs
Rival: a company’s closest competitor
Industry boundaries: basic customer needs served by a market
Porter’s competitive forces model
Rivalry among established firms in industry:
- Risk of entry by potential competitors
- Bargaining power of suppliers
- Bargaining power of buyers
- Threat of substitutes
- Power of complement providers
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Risk of entry by potential competitors
Barriers to entry:
- Economies of scale: reducton in unit costs attributed to a larger output
- Absolute cost advantage: the lower cost structure of established companies in an industry that new entrant
cannot expect to match
- Brand loyaly: preference of consumers for the products of established companies
- Switching costs: costs that consumers must bear to switch from the products offered by one established
company to the products offered by a new entrant
- Government regulations: falling entry barriers due to government regulation results in significant new entry.
Increase in the intenisity of industry competition, and lower industry profit rates.
Bargaining power of buyers
Buyers can bargain down prices or raise costs by demanding better quality and services
- Buyers can choose sellers and purchase in large quantities
- Suppliers industry is dependent on buyers for a major portion of sales
- With low switching costs and ability to purchase input from several companies at once, buyers can pit
companies against each other
- Buyers can threaten to enter the industry and produce the product
Bargaining power of suppliers
Supplier’s power to raise input prices or industry costs through various means
- Product has few susbtitutes and is vital to the buyer
- Supplier is not dependent on one particular industry for their sales
- Companies would incur high switching costs if they moved to a different customer’s industry
- Companies cannot enter their suppliers’ industry to lower prices
Substitute products and complementors
Substitute products: those of different businesses that satisfy similar customer needs. Limit the price that
companies in an industry can charge for their product.
Complementors: companies that sell products that add value to the other products:
- Strong complementors provide an increased opportunity for creating value
- Weak complementors slow industry growth and limit profitability
Stage in the industry life cycle
1.Embryonic stage (development stage)
Growth is slow due to:
-Buyer’s unfamiliarity with the product and poor
distribution channels
-High prices due to companies’ inability to reap significant
scale economies
Barriers to entry are based on access to technological
expertise.
2. Growth stage: firs time demand expands rapidly due to new customers in the market
Prices fall since:
- Scale economies have been attained
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- Distribution channels have developed
Threat from potential competitors is highest at this stage
- Rivalry is low, companies are able to expand their revenues without taking market share away from other
companies.
3. Shakeout
Demand approaches sautration levels. There are fewer potential first time buyers
Rivalry between companies intensifies. Price war results in bankruptcy of inefficient companies and deters new
entry
4. Mature
Market is totally saturated, demand is limited to replacement demand, and growth is low or zero.
Barriers to entry increase and threat of entry from potential competitors decreases
Industries consolidate and become oligopolies. Companies try to avoide price wars
5. Decline
Growth becomes negative due to: technological substitution, social changes, demographics, international
competition.
Rivalry among established companies increases. Falling demand reslts in excess capacity
Exit barriers: economic, strategic and emotional factors that prevent companies from leaving an industry.
*Test 2:
- An inudstry enters the shakeout stage: excess productive capacity emerges
- As a barrier to new entry, absolute cost advantages can be based on: superior production operation and
processes due to accumulated experience, atents, or trade secrets
- Difference between the bargaining power of buyers and the bargaining power of suppliers: a powerful buyer
lower costs, while suppliers raise costs to squeeze profits out of an industry
- Economies of scale can arise from: an advantage gained by spreading fixed production costs over a large
production volume
- Mobility barriers. Inhibit the movement of companies between strategic groups in an industry
- What makes up the competitive structure of an industry? Number and size distribution of companies
- If economies of scale are an industry’s primary entry barrier, a new entrant’s major concern is: its inability
to produce in sufficient volume to match the cost advantages of established producers
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Chapter 3: Internal Analysis: resources and competitive advantage
Competitive advantage: occurs when a company’s profitability is greater than the average profitability of firm in
its industry.
Distinctive competencies: firm specific strengths that allow a company to differentiate its products and/or
achieve lower costs to achieve a competitive advantage. Made up of resources and capabilities.
Basic factors of production: land, labor, management, plant & equipment
Advanced factors of production:
- process knowledge: knowledge of the internal rules, routines, and procedures of an organization that
managers can leverage to achive organizational objectives
- intellectual property: knowledge, research, and information owned by an individual or organization
The VRIO framework
Framework to determine the quality of a company’s resources:
Are they valuable: enable a company to create strong demand for its products, and or to lower its costs
Are they rare: competitors do not possess them
Are they inimitable: difficult for rivals to imitate
Is the company organized to exploit the resources
Barriers to imitation
Make it difficult for a competitor to copy a company’s distinctive competencies.
Ability for rivals to copy:
- Intellectual property: depends on the laws of the nation
- Process knwoledge: difficult because it is partly tacit, hidden from view, and socially complex
- Organizational architecture: wholesale organizational change is risky and difficult due to existing internal
inertia
Sustained competitive advantage
Implications for advanced factors of production:
- Intellectual property should be protected from imitation
- Processes and company organization should be optimized
- Knowledge about superior processes and practices should be protected
- Rare and valuable process knowledge in core functional activities should not be outsourced
Value creation and profitability
Profitability of a company depends on the:
- Value customers place on its products
- Price it charges for its products
- Costs of creating those products
Profitability
There are two main strategies to increase profits:
- High price (differentiation, high value..): products have something special about them that allows company
to charge more than competitors
- Low cost (cost leadership): processes or products have something about them that costs less, allowing
company to spend less than competitors.
Profitability & pricing options:
1. Raising prices to reflect the value
2. Reducing prices to induce more customers to purchase its products
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ROI: return on invested capital
Porter’s value chain
Activities also called “functions”, divided by functional areas
- Primary activities: research & development, production, marketing & sales, customer service
Acticvities related to a product’s design, creation, delivery, marketing, support and after sasles service.
- Support activities: firm infrastructure, information systems, material management (logistics), human
resources
Provide inputs that allow the primary activities to take place
Company infrastructure: organizational structure, control system, incentive systems, and company culture.
Also called organizational architecture.
Building blocks of competitive advantage:
Long term sustainable competitive advantage results
from advanced factors of production and:
-Rare resources, process knowledge and organizational
architecture are rare bacuse they are path dependent
through company history. Intellectual property is
owned by the company
-Barriers to imitation: factors or characteristics that
make it difficult for another individual or company ro
replicate something.
Value creation per unit
Point of sale price is less htan the value placed on the product by many customers due to:
- Consumer surplus: customers capture some of the value pplace on the good or service
- Customer’s reservation price: each individual’s unique assessment of the value of a product
- Competition from rivals
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The more value that consumer derive
from a company’s good or service, the
more pricing option that company has.
Managers creation and pricing options:
Managers must understand how unit costs
change with increases in volume.
Basic accounting terms
Term Term Term
COGS Total costs of producing products Income statement
Sales, general and administrative Costs associated with selling products Income statement
expenses (SG&A) and administering the company
Research & development expenses Research and development Income statement
(R&D) expenditure
Working capital Amount of money the company has to Balance sheet
work with in the short term: current
assets - current liabilities
Property, plant and equiment Value of investment in the property, Balance sheet
plant, and equiment that the company
uses to manufacture and sell its
products. Also known as fixed capital
Return on Sales Net profit expressed as percentage of Ratio
sales
Capital turnover Revenues divided by invested capital Ratio
Return on invested capital Net profit divided by invested capital Ratio
Net profit Total revenues minus total costs Income statement
before tax
Invested capital Interest bearing debt plus Balance sheet
shareholders’ equity
Superior innovation and customer responsiveness
Innovation
- production innovation: development of products that are new to the world or have superior attribute to
existing products
- Process innovation: development of a new process for producing products and delivering them to customers
Superior customer responsiveness: achieved by identifyin and satisfying customer needs better than one’s rivals
- Customer response time: time that it takes for a good to be delivered or a service to be performed
- Other surces: superior design, service, and after sales service and support
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*Test 3:
- Donna can make a chair for 100; she charges customer 150 to buythe chair, and customers perceive that the
chair is worth 25. In this case, the consumer surplus is: 75
- Using the value chain model, which of the following primary activities is performed last, as inputs are
transformed into outputs: customer service
- Which of the following is NOT true of capital productivity: it is measured by looking at a product’s price
- Process knowledgeinclude control systems and incentive systems while organizational architecture include
human skills and the style of decisions are made: false
Chapter 4: Competitive advantage through functional level strategies
What are functional areas? Activites also called functions, divided by functional areas
Research & development, production, marketing & sales, customer service
What are functional strategies? Actions that improve the efficiency and effectiveness of one or more value
creation activities. Strategies that apply to one or more functional areas.
Efficiency: measured by the quantity of inputs that it takes to produce a given output
Should improve over time and/or with experience:
- Economies of scale: reduction in unit costs due to larger output
- Diseconomies of scale: unit cost increases associated with a large scale of output
- Learning effects: costs savings that comes from learning by doing
- More significxant when complex task is repeated
- Diminish in importance over time
* Production: Flexible production technology: technologies designed to increase efficiency and lower unit costs
- Reduce setup times
- Better scheduling
- Improved quality control
- Better customization of product offerings
* Marketing: position of a company’s pricing, promotion, advertising, product design, and distribution.
- Lowering customer defection (the percentage of customers who defect to competitors) helps achieve a
lower cost structure
- Customer loyalty → profit
* Materials management: activities necessary to get inputs and components through the value chain
* Research & development: design products that are easy to manufacture. Develops process innovations
* Human Resources: productive employees lower the costs of generating revenues and increasing return of
sales
* Information systems infrastructure:
- Information systems: impact on productivity affects all company activities
- Infrastructure: organizational structure, culture, style of leadership and control systems
- Strategic leadership is important in building commitment to efficiency
Quality
* Superior reliability
Total Quality Management:
1. Improved quality means that costs decrease
2. As a result, productivity improves
3. Better quality leads to higher market share, allowing the company to raise prices
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4. Higher prices increase profitability, allowing the company to stay in business
5. Enables the company to create more jobs
Innovation
* Supperior innovation
Innovative products or processes gives a company competitive advantage. But innovation failures are common:
tight, cross functional intregration can help
Customer responsiveness
* Superior customer responsiveness:
- Focus on the customer
- Deonstrate leadership
- Shape employee attitudes
- Know customer needs
- Satisfy customer needs
Reasons for high failure rate of innovation:
- Demand for innovations is essentally uncertain
- Technology is poorly commercialized
- Poor positioning strategy: specific set of option adopted for a product based on price, distribution,
promotion and advertising, and product features
- Marketing a technology for which there is inadequate demand
- Slow marketing of products
*Test 4:
- Company A has a producct that hasn’t hit the market yet but has already constructed efficient manufacturing
facilities and has lowered costs through learning effects. It has a marketing team in place that has initiated an
aggressive advertising campaign with sales promotions that have stimulated demand for the product and
accumulate sales volume. Which of the following is true of Company A: this strategy would helps company A
move down the experience cuve quickly
- If a product is to be properly commercialized, there must be integration between which of the following
functions: research and development, marketing
- The experience curve concept: is very improtant in industries that mass produce a standadized output
- Which of the following does the philosophy undelying total quality management include: better quality leads
to higher share
- Which of the following is NOT a benefit of tight cross-functional integration among research and
development (R&D), production, and marketing: product development projects are driven by company
innovations
- All else being equal, if a company moves down the experience curve faster than its rivals, it should realize a
lower cost structure: true
- Product attributes that collectively define product excellene include the form, features, performance,
durability, realibility, and style of the product: true
Chapter 5: Competitive advantage through business level strategy
Business level strategy:
- Overall competitive them of a business
- Way of a company positions itself in the marketplace to gain a competitive advantage
- Different positioning strategies that can be used in differnt industry settings
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* Efficinecy frontier: shows positions company can efficiently adopt. Diminishin returns → convex shape
Differentiation low costs trade off.
To get to the efficiency frontier a company must:
- Pursue the right functonal level strategies
- Be properly organized
- Ensure its business level strategy, functional level strategy, and organizational arrangement align with each
other
* Value innovation: innovations allow for greater value through superior differentiation at a Lowe cost than
previously possible
Company can outperform rivals for a long period of time
Comparison of market segmentation approaches
Standardization Strategy Segmentation strategy Focus strategy
Producting a standardized product for Producing different offerings for Serving a limited number of segments
the average customer, ignoring different segments, serving many or just one segment
different segments segments or the entire market
Lower costs than segmented strategy Customization of product offerings Higher cost structure from new
Economies of scale through high drives up costs product features and functions
volume sales Ecobomies of scale are difficult Economies of scale are difficult
Business level strategy, industry, and competitive advantage
Low cost companies:
- Charge low prices and still make profits
- Absorb cost increases from suppliers
- Offer deep discount prices for buyers
Enables a compan to: gain a competitive advantage in commodity marets. Undercut rivals on price. Gain
market share. Maintain or increase profitability.
Differentiated companies:
- Withstand pricing pressure from powerful buyers and increase prices without buyer resistance
- Absorb price increases from suppliers and pass them to customers without losing market share
- Withstand substitute goods, as a result of brand loyalty
Blue ocean strategy
Widce open market space where a company can chart its own course. Build competitive advantage by
redefining their product offering through value innovation, creating a new market space.
To redefine its market a company must:
- Eliminate factors rivals take for granted and reduce costs
- Reduce certain factors below industry standards, and lower costs
- Raise certain factors above industry standards, and increase value
- Create factors that rivals do not offer, and increase value
Lowering costs through functional strategy and organization:
- Achive economies of scale and learning effects
- Adopt lean production and flexible manufacturing technologies
- Implement quality improvement methologies to produce reliable goods
- Streamline processes
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- Use information system to automate business process
- Implement just in time inventory control systems
- Design products wih a focus on reducing costs
- Increase customer retention
- Ensure that the organization’s structure, systems, and culture reward actions that lead to:
- Higher productivity
- Greater efficiency
*Test 5:
- A differentiated product is a product that: provides greater reliability than a rival product
- In what situation can a company have both differentiation and a low-cost position: with innovation, a
company can push out the efficiency frontier in its industry and can deliver more differentiation at a lower
cost than its rivals.
- The term value innovation is used to describe: what happens when innovation pushes out the efficiency
frontier in an industry, allowing for greater value to be offered through superior differentiation at a lower
cost than was previously thought possible.
- The effect of value innovation on the efficiency frontire is that a product can be offered at agreater value a t
lower cost than was thought possible: true
Chapter 6: bussiness level strategy and the industry environment
Strategies in embryonic and growth industries
Limited customer demand for products on and embryonic industry is due to:
- Limited performance, poor quality
- Customer unfamiliarity
- Poorly developed distribution channels
- Lack of complementary products
- High production costs because of small volumes of production
Mass markets marks growth stage
Mass market occurs when:
- Product value increases, due to ongoing technological progress
- Complementary producys are developed
- Production cost decreases resulting in low prices and high demand
Market development and customer groups
- Innovators: first to purchase and experiment with a product based on new technology
- Early adopters: understand that the technology may have important future applications
- Early majority: practical and understand the value of new technology
- Late majority: purchase a new technology only when it is obvious that it has great utility and Is here to stay
- Laggards: unappreciative of the uses of new technology
Strategic implications: crossing the chasm
Customers in each segment have differente needs
New strategies are required as a market develops
To cross the chasm, successful managers will abandn ourdated
business models, redesign products, distirbution channels and
marketing and sell at a reasonable price.
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Comparison of market segmentation approaches
Innovators and early adopters:
- Technologicall sophisticated and willing to tolerate the limitations of the product
- Reached through specialized distribution channelgs
- Companies produce small quantities of product that are priced high
Early majority:
- Value ease of use and reliability
- Require mass market distribution and mass media advertising campaigns
- Require large scale masss production to produce high quality product at a low price
Factors that accelerate customer demands:
Relative Advantage Degree to which product is perceived as better at satisfying customer needs than product it
supersedes
Complexity Products perceived as complex or difficult to use will diffuse more slowly
Compatibility Degree to which product is perceived as consistent with curretn needs or existing values of
potential adopters
Trialability Degree to which potential customer can experiment with a new product during a hands on
trial basis
Observability Degree to which results of using and enjoying a new product can be seen and appreciated
by other people
Viral difussion Identify and aggressively court opinion leader in a makert. Opinion leaders helo develop
the tehcnoogy adn recommend it
Fragmented industry
Composed of a large number of small and medium seized companies
Reasons for fragmentation:
- Lack of scale economies
- Brand loyalty in the industry is primarily local
- Low entry barriers due to lack of scale economies and national brand loyalty
Focus strategy works best for a fragmented industry
Consolidating a fragmented industry through value innovation
* Chaining: obtaining the advantages of cost leadership by establishing a newtork of linked merchnadising
outlets
- Interconnected by informatuon technology that functions as one large company
- Aids in building a national brand
* Horizontal mergers: merging with or acquiting competitors and combining them into a single large
enterprise
* Franchising: franchisor grants franchisee the right to use the franchisor’s name, reputation, and business
model in return for a fee and a percentage of the profits
- Advantages
- Rapid expansion
- Franchisees stron incentive to run efficiently
- Franchisees developed offerings can improve the system
- Disadvantages
- Tight control of operation is not possible
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- Major portion of the profit goes to the franchisee
- When frnachisees face a higher cost of capital, it raises sytem costs and lowers profitability
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