Chapter Five Crafting Business Strategy 0 OBJECTIVES Define

Chapter Five Crafting Business Strategy 0

OBJECTIVES Define generic strategies and show they relate 1 to a firm’s strategic position 2 Describe the drivers of low-cost, differentiation, and focus strategic positions Identify and explain the risks associated with each 3 generic strategy position 4 Show different positions fit with various stages of the industry life cycle 5 Evaluate the quality of the firm’s strategy 1

STRATEGIC POSITIONING SHOULD IMPROVE PROFITABILITY Where managers of a company situate that company relative to it’s rivals along important competitive dimensions To reduce the effects of rivalry and thereby improve profitability 2

A FIRM’S CHOICE OF POSITION DEPENDS ON TWO FACTORS 1 Firm’s resources and capabilities 2 Industry structure 3

A FIRM CAN GAIN ADVANTAGE OVER RIVALS IN TWO WAYS No advantage over rivals Description Advantage over rivals Differentiation Produce a differentiated product and charge sufficiently higher prices to more than off-set the added costs of differentiation Low-cost Produce an essentially equivalent product at a lower cost 4

THE STRATEGIC POSITIONING MODEL Broad (i. e. , industry wide) Broad low-cost leadership Broad differentiation Narrow (i. e. , particular segment only) Focused cost leadership Focused differentiation Strategic target Low-cost Differentiation Strategic advantage Adapted from poster, M. 1980. Competitive strategy, 1980. 5

LOW-COST LEADERSHIP AND DIFFERENTIATION OFFER GREATER MARKET SHARE AND/OR PROFITS Low-cost leadership Differentiation • Capture market share by offering lower-price or Benefits Examples • Earn higher by maintaining price parity • Pacific Cycle • Gallo Wines • Wal-Mart • Southwest Airlines • Home Depot offering higher quality at same price or • Earn higher margins by raising prices over competitors • Trek Bicycles • Coca-Cola and Pepsi • Mercedez Benz • Honda, Yamaha, and Suzuki motorcycles • Stouffers (frozen foods) 6

STRATEGIC POSITIONING EXAMPLES Broad • Wal-Mart • Gallo Wines • Trek Bicycles • Coca-cola • Jet Blue • Montague • Mercedes Strategic target Narrow Benz (in US) Low-cost Differentiation Strategic advantage 7

LOW-COST AND DIFFERENTIATION CAN GENERATE HIGH MARGINS Product cost Producer’s margin Buyer’s cost* Price Hyundai Elantra Hyundai has a cost advantage Price Chevy Cavalier Price Honda Civic * Including maintenance and other intangibles Honda has a differentiation advantage 8

RESULTS OF DIFFERENTIATED, LOW-COST, AND INTEGRATED POSITIONS Price Cost Industry average price Industry average cost Industry average competitor Successful differentiated low-cost competitor Competitor with both advantages (integrated) 9

KEY DRIVERS OF COST ADVANTAGE • Economies of scale • Learning • Product technology • Product design • Location advantages for sourcing inputs 10

ECONOMIES OF SCALE Economies of scale Learning Economies of scope Production technology Product design • Economies of scale exist during a period of time if the average total cost for a unit of production is lower at higher levels of output • You must review cost to assess whether economies of scale exist: – Fixed costs remain the same for different levels of production – Variable costs are the costs of variable inputs (such as raw materials and labor) and vary directly with output – Marginal cost is the cost of the last unit of production – Total cost is the sum of all production costs and always increases as output goes up – Average cost is the mean cost of total production during a given period (say, a year) Location 11

DISECONOMIES OF SCALE – SIZE DOES NOT ENSURE ECONOMIES OF SCALE Economies of scale Learning Some sources of economies Some sources of diseconomies Economies of scope • R&D spend • Advertising spend • Specialization of specific • Bureaucracy • High labor costs • Inefficient operations Production technology Product design production processes • Superior inventory management • Purchasing power Location 12

MINIMUM EFFICIENT SCALE (MES) Economies of scale Learning Average cost Minimum efficient scale: The minimum scale needed to achieve maximum cost savings (i. e. , minimum costs) Economies of scope Production technology Product design Location Scale of operations Economies of scale Diseconomies of scale 13

LEARNING CURVE AS A SOURCE OF COST ADVANTAGE Economies of scale How Learning Differs from Scale Learning Costs decrease … Economies of scope Production technology Product design Economies of scale as the scale of operation increases during any given period of time Learning curve with the cumulative level of production since the production of the first unit Location 14

LEARNING CURVE (continued) Economies of scale Learning Economies of scope Production technology Product design Location Step 1: Measure No. of bikes produced Hours spent on last bike 1 30. 00 actual 2 27. 00 actual 4 24. 30 actual 8 21. 87 est. 16 19. 68 est. 32 17. 71 est. 64 15. 92 est. 128 14. 34 est. Step 2: Calibrate y = ax-b Step 3: Project 15

ECONOMIES OF SCOPE AS A SOURCE OF COST ADVANTAGE Economies of scale Learning Economies of scope Production technology If a firm produces two or more products and can share resources among two or more of these (e. g. , share manufacturing machines) – thereby lowering the costs of each product – it benefits from economies of scope Product design Location 16

PRODUCTION TECHNOLOGY AS A SOURCE OF COST ADVANTAGE Economies of scale Learning Economies of scope Production technology Product design Often, a new entrant who wants to compete against industry incumbents with significant scale and experience advantages, tries to match or beat incumbents’ costs by introducing a production technology that is subject to different economics (e. g. , Jet Blue, Nucor Steel) Location 17

PRODUCTION DESIGN AS A SOURCE OF COST ADVANTAGE Economies of scale Learning Economies of scope Production technology Product design can sometimes be altered to lower a firm’s production costs (e. g. , Canon vs. Xerox) Product design Location 18

LOCATION AS A SOURCE OF COST ADVANTAGE Economies of scale Learning Economies of scope Production technology Product design Sometimes firms try to attain lower production costs by locating their operations in cheaper labor markets (e. g. , Pacific Cycle manufactures in China and Taiwan to achieve lower costs than Trek who manufactures in the US) Location 19

KEY DRIVERS OF DIFFERENTIATION ADVANTAGES Key Drivers • Premium brand image • Customization • Unique styling • Speed • More convenient access • Unusually high-quality Purpose To drive up customer’s willingness to pay and generate demand sufficient to (1) Recoup added costs and (2) Generate enough profits to make strategy worthwhile 20

DRIVERS AND THREATS TO DIFFERENTIATION AND LOW-COST ADVANTAGE Drivers Low-cost • Economies of scale • Learning • Economies of scope • Superior technology • Product design • Location Threats • New technology • Too low-quality • Social, political, and economic risks of outsourcing • Premium brand image • Failure to increase buyer’s willingness • Customization to pay higher prices • Unique styling • Under estimating Differentiation • Speed cost of differentiation • Convenient access • Over fulfillment of • Unusually high-quality buyer’s needs • Lower cost imitation 21

STRATEGIES FOR DIFFERENT PHASES OF THE INDUSTRY LIFE CYCLE Phases of industry life cycle Embryonic Growth Mature Decline Arenas Local Vehicles Internal development Alliances to secure missing inputs or distribution access Alliances for cooperation Acquisitions in targeted markets Differentiators Staging Target basic needs, Tactics to gain minimal early footholds differentiation Economic Logic Prices tend to be high. Costs are also high Focus is on securing additional capital to fund growth phase. Penetration into Increased efforts Integrated Margins can improve adjacent markets toward positions require rapidly because of differentiation choice of experience and scale Low cost leaders focusing first on Price premiums accrue emerge through cost or to successful gaining experience differentiation differentiators advantages and scale Globalization Mergers and More stable Choosing Consolidation results Diversification acquisitions result positions emerge international in fewer competitors in consolidation across competitors markets and new (favoring higher industry margins) but declining diversification; growth demands cost need rational containment and sequencing rationalization of operations. Some arenas may be Acquisitions for Rationalizing cost abandoned if decline diversifying moves is severe Divestitures to exit Focus on segments for some which provide most competitors 22 profitability

TESTING THE QUALITY OF A STRATEGY Key Evaluation Criteria Sub-questions 1. Does your strategy exploit your key • With your particular mix of resources, does this strategy give resources? you an advantageous position relative to your competitors? • Can you pursue this strategy more economically than competitors? • Do you have the capital and managerial talent to do all you envision? • Are you spread too thin? 2. Does your strategy fit with current • Is there healthy profit potential where you're headed? industry conditions? • Are you aligned with the key success factors of your industry? 3. Will your differentiators be • Will competitors have difficulty imitating you? sustainable? • If imitation cannot be foreclosed, does your strategy include a ceaseless regimen of innovation and opportunity creation to keep distance between you and the competition? 4. Are the elements of your strategy • Have you made choices of arenas, vehicles, differentiators, and consistent and aligned with your staging, and economic logic? strategic position? • Do they all fit and mutually reinforce each other? 6. Can your strategy be implemented? • Will your stakeholders allow you to pursue this strategy? • Do you have the proper complement of implementation levers in place? • Is the management team able and willing to lead the required changes? 23

SUMMARY 1 Define generic strategies and show they relate to a firm’s strategic position 2 Describe the drivers of low-cost, differen -tiation, and focus strategic positions 3 Identify and explain the risks associated with each generic strategy position 4 Show different positions fit with various stages of the industry life cycle 5 Evaluate the quality of the firm’s strategy 24