STRATEGY:A VIEW FROM THE TOP

CHAPTER 6 “FORMULATING BUSINESS

UNIT STRATEGY”

Ashley CampionWes KincaidStephanie LanterMichael RiggenJohn HutchensNathan FrostClaudia Martinez

FORMULATING BUSINESS UNIT STRATEGY Involves creating profitable competitive

position for a business within a specific industry

Sometimes called competitive strategy Optimal strategies depend on factors like:

- nature of the industry- mission, goals, and objectives- current position & core competencies- competitor’s strategic choices

FORMULATING BUSINESS UNIT STRATEGY Things to address:

- What determines relative profitability at the business unit level?- The importance of the industry in which a company competes and the competitive position of the firm within its industry

- The drivers that determine sustainable competitive advantage

FORMULATING BUSINESS UNIT STRATEGY The logic behind strategic thinking at the

business unit level suggest a number of generic strategic choices that depends on the specific opportunities and challenges

This chapter deals with:- How to asses a strategic challenge- Techniques for generating and evaluating

strategic alternatives- Issue if designing a profitable business model

FOUNDATIONS

How much does industry matter? Industry directly accounts for approx. 36% of

profitability Begins to answer what principal factors lie

behind a business unit’s profitability

RELATIVE POSITION

• Relative profitability depends on nature of their competitive position This is their ability to create a sustainable

competitive advantage• Created either through low cost or

differentiation Advantage gained when company

satisfies customer desires at lowest cost Or, when it creates value that allow the

company to charge a premium

MARKET SHARE

Two schools of thought 1) Volume share – striving for as much market

share as possible 2) Striving for as much profit as possible

Led to PIMS (Profit Impact of Market Strategy)

PIMS

Major findings 1) Absolute and relative market share correlate

with ROI 2) Product quality is key to market leadership 3) ROI is positively correlated with market growth

PIMS

Continued… 4) Vertical integration can help in product life

cycle 5) High investment intensity leads to less ROI 6) Capacity use is critical with a high level of

capital intensity PIMS being taught less frequently due to

changing technological workplace, leading executives to continually update assumptions

FORMULATING A COMPETITIVE STRATEGY

Key Challenges Analyzing the competitive environment Anticipating competitors’ actions Generating strategic options Choosing among alternatives

FORMULATING A COMPETITIVE STRATEGY Analyzing the competitive

environment With whom will we compete, now and in the future? What relative strengths will we have as a basis for

creating a sustainable competitive advantage?

Anticipating competitors’ actions How will competitors react to different strategic

moves? Realize that industry leaders react differently then

challengers or followers. A detailed competitor analysis will help determine

how a competitor will react.

FORMULATING A COMPETITIVE STRATEGY Generating strategic options

Balance opportunities and constraints Create strategic options that range from defensive

to preemptive

Choosing among alternatives Analyze the long term impact of different strategy

options Make a final choice

FORMULATING A COMPETITIVE STRATEGY What is a competitive advantage?

When a firm is able to create and implement a value-creating strategy that competitors are not using.

A competitive advantage is sustainable if competitors can not imitate

Created by combining strengths Firm must exploit competencies and advantages

FORMULATING A COMPETITIVE STRATEGY Southwest Airlines

15 minute turn around timeAble to offer more flights per daySaves $175 million

Taco BellOutsources food preparation functionsCan cut prices, reduce employees, and

reduce 40% of kitchen space

FORMULATING A COMPETITIVE STRATEGY Important Issues

Executives must understand the nature and source of competitive advantages

They must make sure middle management understand competitive advantages

Building a competitive advantage involves identifying, practicing, strengthening, and instilling leadership traits

VALUE CHAIN ANALYSIS Value – perceived benefit that a buyer is

willing to pay a firm for what a firm provides. Customers value - product differentiation, product

cost, and the ability of the firm to meet their needs.

Value chain analysis – the study of costs and elements of product or service differentiation throughout the chain of activities and linkages to determine present and potential sources of competitive advantage.

Ex. Charles Schwab

- Primary activities that contribute to the physical creation of the product.

- Broad range of distribution channels for its brokerage services. ( primary)

- Support activities that assist the primary activities and each other.

- Hold extensive expertise in information technology and brokerage systems (support)

VALUE CHAIN CONT. How does a firm differentiate itself?

- When it can differentiate itself from its competitors when it provides something unique that is valuable to buyers beyond a low price.

Ex. Dell- Dell’s ability to sell, build-to-order, and ship a computer to the

customer with a few days is a unique differentiator of its value chain.

- Dell shares information about its customers with its suppliers. Suppliers can forecast demand then.

Ex. Procter and Gamble

- Reorganized its product supply chain into a superfunctions unit by combining formerly independent functions of purchasing, engineering, and distribution. A product supply manager was created for each division and the functions report to him. These measures reduced flow time and inventories, and increased on-time delivery and quality.

VALUE CHAIN CONT. Different segments of the value chain represent

potential sources of profit, known as profit pools. Value that activities contribute beyond their costs.

Ex. Millennium Pharmaceuticals - Did a value chain analysis and opted to shift from

drug research in the upstream portion of the industry to drug manufacturing downstream, to improve its profitability. The firm’s strategy came from the understanding of the entire pharmaceutical value chain and how it could better exploit different profit pools.

VALUE CHAIN CONT.

Ex. Home Depot and General Electric- Alliance between their value chains that reduces

direct and indirect costs for each firm.- A web application links Home Depot’s point-of-

purchase data to GE’s e-business system and enables Home Depot to ship directly to its customers from GE.

- The value chain to value chain connection enables Home Depot to sell more GE products and to reduce the inventory in its own warehouses.

- GE can use the real-time demand information from Home Depot to adjust the production rate of appliances.

PORTER’S GENERIC BUSINESS UNIT STRATEGIES

Differentiation

Low Cost

The relative attractiveness of different generic strategies is related to choice about competitive scope.

LOW COST

Aimed at cost leadership.

Low expenditures on R&D, marketing, and overhead.

Low prices serve as an entry barrier to potential competitors.

LOW COST

With a more narrow scope, a low cost strategy is based on cost focus.

Example: Southwest Airlines

DIFFERENTIATION

Aimed at a broad, mass market seeking to create uniqueness on an industry wide basis.

Examples: Nike and Disney

REQUIREMENTS FOR SUCCESS

Low Cost Minimizing cost through continuous improvement

in manufacturing, process engineering, and other cost reducing strategies.

Achieving and sustaining tight control and an organizational structure and incentive system supportive of a cost focused discipline.

REQUIREMENTS FOR SUCCESS

Differentiation Redefine the rules by which customers arrive at

their purchase decisions by offering something unique that is valuable.

Most successful is involving multiple sources of differentiation.

RISK

Cost leaders must concern themselves with the technological change that can nullify past investments in scale economics or accumulated learning.

Differentiation must be concerned with imitation.

THE SAGA OF DELL

Turned a low margin mail order operation into a high profit, high service business by challenging every aspect of PC selling and manufacturing.

After absence his company had fallen victim to complacency, believing that it is highly successful business model would remain defensible and productive.

CRITIQUE OF PORTER’S GENERIC STRATEGIES

Low cost production and differentiation are not mutually exclusive and that when they can exist together in a firm’s strategy, they result in sustained profitability.

Evidence that the pursuit of a pure generic strategy will not sustain a competitive advantage in hypercompetitive environments.

VALUE DISCIPLINES

Def: different ways a company can create value for customers

Choosing a value discipline and focusing on it sharpens a company’s strategic focus

Three Different Value Discipline Strategies Product Leadership Operation Excellence Customer Intimacy

PRODUCT LEADERSHIP

Consistently producing state-of-the-art products and services

Innovation driven Raise the bar by offering more value and

better solutions

Examples: Apple, Nike, Amazon.comAll Ranked in Business Week’s World’s 50

Most Innovative Companies

PRODUCT LEADERSHIP- NIKE

Encourage InnovationShoes, Apparel, Customization, Accessories

Risk-Oriented Management StyleRisks and rewards when it comes to

innovation Recognition of People

Research and Design people are reason for current and future success

Recognition of need to educatePromotes empowerment of womenHealthy youth program emphasizing active

lifestyles

OPERATIONAL EXCELLENCE

Def: strategic approach aimed at better production and delivery mechanisms

Value reputation of reliability, value, and consistency

Example: Starwood Suites & Resorts Worldwide

OPERATIONAL EXCELLENCE- SHERATON• Starwood Hotels and Resorts • Underperforming Hotels: Sheraton

and Four Points brand• Sheraton had $750 million renovation • 80% of original hotel torn down• All rooms redecorated and many

different amenities added• Focus on operational excellence

immediately successful

CUSTOMER INTIMACY

Companies focusing on customer intimacy focus on customer loyalty

Customer friendly atmosphere Tailor products and services to customer

needs Pursuing customer intimacy can be

expensive, but pays off in long term

Example: Home Depot, Lifetime Fitness, Nordstrom

CUSTOMER INTIMACY- LIFETIME FITNESSWant people to spend multiple hours there

◦ Open 24 hours a day◦ Latest fitness equipment◦ Indoor & Outdoor Pools with Slides, Hot tubs◦ Kid Center◦ Salon◦ Life Café (healthy food served)

Create environment of having fun, working out, and being healthy

DESIGNING A PROFITABLE BUSINESS MODEL

It is a critical part of formulating a business unit strategy

Creating an effective model requires a clear understanding of how the firm will generate profits and the strategic actions it must take to succeed over the long term

BUSINESS MODELS Adrian Slwotzky and David Morrison

have identified 22 business models

They present these models as examples

Authors also confirm that in some instances profitability depends on the relationship of two or more models

BUSINESS MODELS The two most productive questions asked of

executives1. What is our business model?2. How do we make a profit?

Classic strategy rule suggests“Gain market share and profits will follow”

Because of globalization and rapid technological advancements, this once highly regarded belief of the correlation between market share and profitability has collapsed some industries

HOW CAN BUSINESS EARN SUSTAINABLE PROFITS?

Analyze the following questions:Where will the firm be able to make a

profit in this industry?How should the business model be

designed so that the firm will be profitable?

Slwotzky and Morrison give 11 profitability business models as a way to answer these questions

PROFITABILITY MODELS

Customer Development/Customer Solutions Profit ModelCompanies use this model make money by

discovering ways to improve their customers’ economic economics and investing in ways for them to improve their processes Ex: Discover Credit Card

PROFITABILITY MODELS

Product Pyramid Profit ModelsEffective in markets where customers have

strong preferences for product characteristics

By offering a number of variations, companies build “product pyramids”

Low-priced, high volume products

High –priced, low volume products

Profits are concentrated at the top

Strategic firewall- deters competitive entry, protecting margins at the top

• Ex: Car companies and consumer goods

PROFITABILITY MODELS Multicomponent System Profit Model

Some businesses are characterized by a production/marketing system that consists of components that generate substantially different levels of profitability

In such cases it is useful to maximize the profitability of the whole system Ex:

Switchboard Profit Model Creates a high-value intermediary that connects

multiple sellers and multiple buyers through one point, or “switchboard”, and reduces costs for both parties for a price. Ex: Ebay, Amazon

PROFITABILITY MODELS Time Profit Model

Speed is sometimes the key to profitability Model follows the first-mover advantage Constant innovation is essential to sustain this

model Ex: Software, technology, cell phones

Blockbuster Profit Model In some industries profitability is driven by a few

great product successes In this business environment, there are high R&D

and launch costs and finite product cycles It pays to concentrate resource investments in a

few projects rather than take positions in a variety of products. Ex: Movie Studios, Pharmaceutical firms

PROFITABILITY MODELS

Profit Multiplier Model Reaps gains from the same product, character,

trademark, capability, or service This model can be a powerful engine for business

with strong consumer brands Ex: Disney and Mickey Mouse

Entrepreneurial Model Model stresses that diseconomies of scale can exist

in companies They attack other companies who have become

comfortable with their profit levels and bureaucratic systems that are remote from customers

As their expenses grow and attention steers away from customers, the entrepreneurs who are in direct contact with customers, step in

PROFITABILITY MODELS

Specialization Profit Model Stresses growth through sequenced

specialization Ex: Consulting companies

Installed Base Profit Model Company that pursues this model profits

because its established user base subsequently buys the company’s brand of consumables or follow-on products

Installed base profits provide a protected annuity stream

Ex: Razors and blades, swiffer and refill wipes, plug in air fresheners

PROFITABILITY MODELS

De Facto Standard Profit ModelVariant of the installed base modelThis model is appropriate when the

Installed Base Model becomes the de facto standard that governs competitive behavior in the industry

TAKEAWAYSFOUNDATIONS Firm success is explained by two factors:

- attractiveness of the industry in which the firm competes- relative position with in that industry

Two generic forms of competitive positioning are a competitive advantage based on:- lower delivered cost - differentiate products/services

TAKEAWAYSVALUE CHAIN ANALYSIS

Involves the study of cost and elements of product or service differentiation throughout the chain of activities and linkages to determine present and potential sources of competitive advantage

TAKEAWAYSPORTER’S GENERIC BUSINESS UNIT STRATEGIES

Uniqueness perceived Low-cost position

by the customer

Differentiation Overall cost leadership

Focus

Industry-wide

Particular segment-only

TAKEAWAYSVALUE DISCIPLINES

Strategic Focus Competitive Drivers/Needs•Search for new products/markets•Experiment with trends•Initiate change to which competitors must respond

•Narrow product lines•High expertise in chosen areas of focus•Moderate change in technology/structure•Focus on cost, efficiency/volume

•Strong customer focus•Relationship driven •Two competitive requirements

Product Leadership

Operational Effectivene

ss

Customer Intimacy

TAKEAWAYSDESIGNING A PROFITABLE BUSINESS MODEL Critical part of formulating a business unit

strategy Clear understanding of how the firm will

generate profits over the long-term Two most productive questions:

- What is our business model?- How do we make a profit?