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Strategic Management 9791B

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Business Level Strategy Formulation

The essence of strategy lies in creating tomorrow's competitive advantages faster than competitors mimic the ones you possess today. (Gary Hamel & C. K. Prahalad)

This topic looks at business level strategy. This is the competitive strategy needed to achieve the organisation's strategic or overarching performance goals in alignment with its direction. Sustainable competitive advantage is achieved when organisations implement a value creating strategy that is grounded in their own unique resources, capabilities, and core competencies. Organisations achieve strategic competitiveness and earn above-average returns when their unique core competencies are leveraged effectively to take advantage of opportunities in the external environment.

In this topic we are concerned with how to compete successfully in each of the lines of business an organisation has chosen to engage in. The central thrust is how to build and improve the organisation's competitive position for each of its lines while being mindful of resource implications. An organisation has competitive advantage whenever it has an edge over rivals in attracting customers and defending against competitive forces. We want to develop competitive advantages that have some sustainability. Successful competitive strategies usually involve building uniquely strong or distinctive competencies in one or several areas crucial to success and using them to maintain a competitive edge over rivals. Some examples of distinctive competencies are:

§  superior technology and/or product features

§  better manufacturing technology and skills

§  superior sales and distribution capabilities

§  better customer service and convenience

We will consider several strategy models including those associated with product/market position, portfolio, product lifecycle, and of course Michael Porter's competitive strategy and value analysis models. The notes provided here are but a taster. To make informed and defensible strategy decisions,it isrecommended you investigate the options more deeply by conducting further online and offline research.In addition you may like to read about perspectives on 'growth' in contemporary Australian Businesses (pdf 239k) which is available from the online site. Remember, your goal is to evaluate your options and choose that strategy that best allows your meeting of the organisation's goals. In addition, you must be able to defend your strategy choice to key stakeholders.

Offensive (Growth) Product-Market Strategies

Most vision, mission and goal statements reflect the desire to grow - to increase revenue and profits through market share. In seeking growth, an organisation must consider its products and markets. Then it has to decide whether to continue what it is currently doing only do it better, or to establish new ventures. The product-market growth matrix, first proposed by Igor Ansoff, depicts these options. As you can see from the following diagram, four growth strategies are available.

Ansoff's Matrix - Planning for Growth

This well known marketing tool was first published in the Harvard Business Review (1957) in an article called ‘Strategies for Diversification’. It is used by strategists who have objectives for growth. Ansoff’s matrix offers strategic choices. There are four main categories for selection.

Market Penetration

Here we market our existing products to our existing customers. This means increasing our revenue by, for example, promoting the product, repositioning the brand, and so on. However, the product is not altered and we do not seek any new customers.

Market Development

Here we market our existing product range in a new market. This means that the product remains the same, but it is marketed to a new audience. Exporting the product, or marketing it in a new region, are examples of market development.

Product Development

This is a new product to be marketed to our existing customers. Here we develop and innovate new product offerings to replace existing ones. Such products are then marketed to our existing customers. This often happens with the auto markets where existing models are updated or replaced and then marketed to existing customers.

Diversification

This is where we market completely new products to new customers. There are two types of diversification, namely related and unrelated diversification. Related diversification means that we remain in a market or industry with which we are familiar. For example, a soup manufacturer diversifies into cake manufacture (ie the food industry). Unrelated diversification is where we have no previous industry nor market experience. For example a soup manufacturer invests in the rail business.

Ansoff’s matrix is one of the most well know frameworks for deciding upon strategies for growth.

Ansoff’s Matrix Exercise

Colorado Ricardo Mountain Bikes

Colorado Ricardo Mountain Bikes was founded by Ricardo Francisco in 1992. He was a keen cyclist who spent his weekends with many friends cycling and having fun in the mountains of Colorado. He was very competitive and loved to take his bike off-road to test his strength and endurance. However he found that the bikes themselves kept on breaking-down under the strain. So Ricardo designed and built a number of bikes to overcome this problem. Many failed but eventually he came up with the ultimate in off-road bike, which he called the 'Colorado Ricardo'. People liked Ricardo’s bike and he was asked to build and sell them to other cyclists in the Colorado region. It went so well that soon he was able to give up his own job as a DJ to focus on the construction of the bikes. As the mountain bike sport took off, Ricardo’s business grew to produce 10,000 units in 1996. However sales have fallen annually since then and forecasted sales for 2000 are only 4,000 units. Ricardo’s company needs strategies for growth before it is too late. Use Ansoff’s matrix to examine the options for Colorado Ricardo.

Ansoff’s Matrix Answer - Colorado Ricardo Mountain Bikes

As you can see there are many strategic options for Ricardo. As a marketer you now have to decide upon which strategy or strategies the company should actually implement. This is based upon a number of factors such as competitive activity, available resources, the good old 'gut feeling', and others. Marketing Teacher will look at these over the next few weeks.

Product/Market Matrix

Present Products / New Products
Present Markets / Market Penetration / Product Development
New Markets / Market Development / Diversification

Diversification Growth

This strategy entails adding products to the present line. These products may be compatible with the present products or unrelated. Related diversification is attractive when strategic fits are turned into competitive advantages. Strategic fit relationships are important because they provide cost efficiencies, skills and technology transfers, brand name advantages etc. An examples of a related diversifier that we can all relate to is Pepsico which owns Pepsi Cola and Mountain Dew softdrinks, Kentucky Fried Chicken, Pizza Hut and Taco Bell.

Capability

The idea of unrelated diversification is normally associated with a product-market assumption. However some diversifiers apply the same capabilities to businesses in a wide variety of product-markets, giving the appearance of unrelated acquisitions, but in fact being extremely focussed on a particular capability. Consider Soul Pattinson moving into Internet Broadband provision and Publishing & Broadcasting Limited (PBL) into gambling with the purchase of the Crown Casino in 1999.

Portfolio

Diversification involves allocating resources across various products and markets. Portfolio models have been built to help guide resource allocations and priorities.

Drucker (1969) describes the main reasons for diversification as:

Internal Pressures

1.  Psychologically people get tired of doing the same thing over and over again

2.  Diversification is seen as a way to convert present internal cost centers into revenue producers

External Pressures

1.  The economy (or market) appears too small and confined to allow growth

2.  The organisation's R&D turn up products which appear to have promise

Christensen (1994) has considered the main reasons for diversification and identified their flaws.

1.  Diversification is pursued to take advantage of ‘an exceptional market opportunity’.This type of diversification is characterised by high growth in the market, which has a tendency to reduce the rivalry in an industry, therefore reducing barriers to entry and may be even offering an opportunity to become a dominant player in the industry.However, a successful acquisition is based on a good fit between opportunity and company resources/capabilities.According to Christensen (1994) most companies in pursuit of this type of diversification only consider the opportunity aspect and do not consider adequately the fit of resources and capabilities.

2.  Diversification is pursued because the current product market shows little growth potential.This is a problem for a company in a mature industry.The major problem is that mature industries have a requirement for different management skills than a rapidly growing business.As the author put it ‘recognising the absence of opportunity in an existing business does not confer the capability to succeed in a new one’.

3.  Diversification is pursued to create a more stable stream of earnings.This is a strategy for companies who experience, for example, considerable seasonal variations, and the diversification product/market and/or partner is often in a business that is inversely correlated.Whilst there is potential to overcome the unstable income stream, this is often at considerable risk.As in (2) above, Christensen (1994) believes that the businesses are likely to be fundamentally different and require different management practices and company capabilities.

4.  Diversification is pursued to save investors a double taxation of dividends through reinvestment in new businesses.The author suggests that ‘in most instances the costs of entry and of learning how to run the new business significantly exceed the tax benefit. Institutional investors are even worse off because they are not subject to any significant amount of double taxation.’

5.  Diversification is pursued to exploit synergies between a business and its corporate parent.This is the only valid reason for pursuing diversification.

Diversification strategies are less popular in recent years because companies have discovered that diversified businesses are hard to manage. The advice from gurus such as Porter (1980) and Peters & Waterman (1982) is to stick to the company’s area of competence if this is possible.

Whilst this may be good advice in developed economies, in emerging markets, the conglomerate is often able to provide the infrastructure that supports their activities, this being provided by governments and institutions in developed economies. Companies therefore must adapt their thinking according to the context they operate in. Issues of concern are the country's market for the factors of production, its legal system, customer protection and mechanisms for enforcing contracts. In situations where a system of caveat emptor prevails or where the financial markets are underdeveloped and weakly monitored, the conglomerate can foster the trust that other firms cannot muster. Indeed, the Indian and South Korean Governments have restricted the amount of capital that banks are permitted to loan to conglomerates (Khanna and Palepu, 1997). In this situation, the conglomerate is able to benefit by being diversified and would not benefit if it "stuck to the knitting".

In recent years shareholders began to express the view that they are capable of diversifying their shares by holding portfolios.They do not need one company to do this on their behalf.

Nevertheless, diversification is appropriate if the industry attractiveness is low and there is no chance of this changing.The cigarette industry in particular needed to opt for diversification with environmental pressures from governments, consumers, and doctors negatively affecting the industry.

Concentric and horizontal diversification at least offers some form of synergy which the company can take advantage of.In consumer goods markets especially, horizontal diversification can benefit the company because they can utilise the fact that they are familiar with customers or a segment of the market.Concentric diversification can offer synergistic benefits in any organisational sub-system, for example in the production process, the inventory control, channels of distribution, the way a product is promoted, or with a common component. Collis and Montgomery (1998) point out that companies mistakenly enter businesses based on similarities of product rather than the resources that contribute to competitive advantage in each business. Concentric diversification based on resource leadership therefore would be a preferred diversification path according to the two writers.

Conglomerate diversification is most appropriate when industry attractiveness is low, but the company business strength in the current product market is average. On the other hand when a company has strong competitive capabilities but the industry is not attractive, then concentric or horizontal diversification may be more appropriate because the company can benefit from its outstanding business strength.

Diversification & Product Portfolio Analysis

This component of business level strategy is concerned with our product portfolio or product lines. Portfolio matrix models can be useful in re-examining the present portfolio in preparation for cosidering a diversification strategy. The two primary models are the BCG Growth-Share Matrix (or Boston Box) and the McKinsey/GE Portfolio Matrix. The purpose of all portfolio matrix models is to help us understand and consider changes in our product portfolio. Both these models consider and display on a 2D graph, each major product line in terms of some measure of its market attractiveness and its relative competitive strength. The BCG Growth-Share Matrix model considers relatively simple variables: growth rate of the product as an indication of its attractiveness, and relative market share as an indication of its relative competitive strength. You can read a little more about the Boston Box at the end of this document. In addition, you should consult your own and any other current Strategic Management and/or Marketing text.

The McKinsey/GE Portfolio Matrix moves beyond the Boston Box and its advantage is that it allows strategists to include more factors than the strictly two-factor BCG. It considers two composite variables in a nine box arrangement which you can customise for example

(a)  product attractiveness (eg market size, growth rate, price sensitivity, barriers to entry/exit etc) and