(Mt) – MGT 510 SEU Management Cost Leadership and Differentiation Discussion

Case 9 AirAsia: The World’s Lowest-cost Airline By 2009, AirAsia had established itself as Asia’s most successful low-cost airline. Between January 2002 and March 2009, AirAsia had expanded from two aircraft and 200,000 passenger journeys to 79 aircraft and 11.8 million passenger journeys. Its route network had grown beyond Malaysia to cover ten Southeast Asian countries. In addition to its hub in Kuala Lumpur (KL), Malaysia, it had replicated its system by establishing associated airlines in Thailand and Indonesia. By 2007, UBS research showed that AirAsia was the world’s lowest-cost airline with costs per available seat kilometer (ASK) significantly below those of Southwest, Jet Blue, Ryanair, or Virgin Blue (Figure 1). It was also one of the world’s most profitable airlines. In 2008, when very few of the world’s airlines made any profit at all, AirAsia earned a return on assets of 4%.1 In 2009, it won the Skytrax Award as “The World’s Best Low Cost Airline.” AirAsia had built its business on the low-cost carrier (LCC) model created by Southwest Airlines in the US and replicated throughout the world by a host of imitators. AirAsia had adapted the basic LCC model to the market, geographical, and institutional features of Southeast Asia while preserving the principal operational features of the strategy. However, in 2007, AirAsia embarked upon a major departure from the LCC model: expansion into long-haul flights by inaugurating routes to Australia and China and then, in 2009, to India and the UK. The conventional wisdom was that the efficiency of the LCC model was dependent upon short and medium-distance flights with a single type of aircraft and minimal customer amenities—intercontinental flights required contravening these basic conditions. Very few LCCs had ventured into long-haul; even fewer had made a success of it. To evaluate AirAsia’s potential to expand from being a regional carrier to an international airline would require a careful analysis of the basis of its existing cost advantage and an evaluation of the transferability of these cost advantages to the long-haul market. The History of AirAsia The growth of AirAsia is closely associated with the entrepreneurial effort of Tony Fernandes. Son of a Malaysian doctor, Fernandes was sent to boarding school in Written by Robert M. Grant. The case draws upon a report written by Sara Buchholz, Nadia Fabio, Andrés Ileyassoff, Laurent Mang, and Daniele Visentin: AirAsia: Tales from a Long-haul Low Cost Carrier, Bocconi University (2009), and from an earlier case by Thomas Lawton and Jonathan Doh: The Ascendance of AirAsia: Building a Successful Budget Airline in Asia (Ivey School of Business, Case No. 9B08M054 2008). Used by permission of the authors. © 2012, Robert M. Grant. 524 CASES TO ACCOMPANY CONTEMPORARY STRATEGY ANALYSIS FIGURE 1 Costs in US cents per available seat kilometer for different low-cost airlines $0.10 SpiceJet Operating costs per ASK $0.09 easyJet SkyEurope WestJet GOL Virgin Blue airberlin $0.08 $0.07 $0.06 Veuling $0.05 JetBlue Southwest Ryanair Air Arabia $0.04 AirAsia $0.03 700 900 1,100 1,300 1,500 1,700 1,900 2,100 2,300 Average trip length Source: AirAsia Presentation, CLSA Forum, Hong Kong, September 2007. Britain with a view to following his father’s footsteps into the medical profession. Tony had other ideas and, after an accounting degree at the London School of Economics, he went into music publishing, first with Virgin, then Time Warner. He describes his decision to start an airline as follows: I was watching the telly in a pub and I saw Stelios [Haji-Ioannou] on air talking about easyJet and running down the national carrier, British Airways. (Sound familiar? Hahaha.) I was intrigued as I didn’t know what a low cost carrier was but I always wanted to start an airline that flew long haul with low fares. So I went to Luton and spent a whole day there. I was amazed how people were flying to Barcelona and Paris for less than ten pounds. Everything was organized and everyone had a positive attitude. It was then at that point in Luton airport that I decided to start a low cost airline.2 He subsequently met with Conor McCarthy, former operations director of Ryanair. The two developed a plan to form a budget airline serving the Southeast Asia market. Seeking the support of the Malaysian government, Fernandes was encouraged by Prime Minister Mahathir Mohammad to acquire a struggling government-owned airline, AirAsia. With their own capital and support from a group of investors, they acquired AirAsia for one Malaysian ringgit (RM)—and assumed debts of RM40 million (about $11 million). In January 2002, AirAsia was relaunched with just three planes and a business model that McCarthy described as: “a Ryanair operational strategy, a Southwest people strategy, and an easyJet branding strategy.”3 Fueled by rising prosperity in Malaysia and its large potential market for leisure and business travelers seeking inexpensive domestic transportation, AirAsia’s domestic business expanded rapidly. In January 2004, AirAsia began its first international service from KL to Phuket in Thailand; in February 2004, it sought to tap the Singapore market by offering flights from Johor Bahru, just across the border from Singapore, and in 2005 it began flights to Indonesia. CASE 9 AIRASIA: THE WORLD’S LOWEST-COST AIRLINE International expansion was financed by its initial public offering (IPO) in October 2004, which raised RM717 million. Airline deregulation across Southeast Asia greatly facilitated international expansion. To exploit the market for budget travel in Thailand and Indonesia, AirAsia adopted the novel strategy of establishing joint-venture companies in Thailand (Thai AirAsia) and Indonesia (Indonesia AirAsia) to create new hubs in Bangkok and Jakarta. In both cases, the operations of these companies were contracted out to AirAsia, which received a monthly fee from these associate companies. From the beginning, Fernandes had set his sights on long-haul travel, guided by the example of his hero, Freddie Laker, the pioneer of low-cost transatlantic air travel. However, this risked his good relations with the Malaysian government because it put AirAsia into direct competition with the national airline, Malaysia Airlines. Hence, Fernandes established a separate company, AirAsia X to develop its long-haul business. AirAsia X is owned 16% by AirAsia (with an option to increase to 30%), 48% by Aero Ventures (co-founded by Tony Fernandes), 16% by Richard Branson’s Virgin Group, with the remaining 20% owned by Bahrain-based Manara Consortium and Japan-based Orix Corporation. Operationally, AirAsia and AirAsia X are closely linked. In 2007, flights began to Australia, followed by China. By July 2009, AirAsia X had flights from KL to the Gold Coast, Melbourne, and Perth in Australia; Tianjin and Hangzhou in China; and Taipei and London using five Airbus A340s, with three more to be delivered by year-end. Planned future routes included Abu Dhabi (October 2009), India (2010), and later Sydney, Seoul, and New York. At Abu Dhabi, AirAsia X planned to have a hub that would serve Frankfurt, Cairo, and possibly East Africa too: “You just can’t get to East Africa from Asia,” observed Fernandes.4 To support its expansion, AirAsia X ordered ten Airbus A350s for delivery in 2016. AirAsia’s Strategy and Culture Strategy AirAsia described its strategy as follows: ● ● ● ● ● ● Safety first: partnering with the world’s most renowned maintenance providers and complying with world airline regulations. High aircraft utilization: implementing the region’s fastest turnaround time at only 25 minutes, assuring lower costs and higher productivity. Low fare, no frills: providing guests with the choice of customizing services without compromising on quality and services. Streamline operations: making sure that processes are as simple as possible. Lean distribution system: offering a wide and innovative range of distribution channels to make booking and traveling easier. Point-to-point network: applying the point-to-point network keeps operations simple and costs low.5 Prior to its expansion into long-haul, AirAsia identified its geographical coverage as encompassing three-and-a-half hours’ flying time from its hubs. Fernandes’ confidence in his growth strategy rested on the fact that “This area encompasses 525 526 CASES TO ACCOMPANY CONTEMPORARY STRATEGY ANALYSIS a population of about 500 million people. Only a small proportion of this market regularly travels by air. AirAsia believes that certain segments of this market have been under-served historically and that the Group’s low fares stimulate travel within these market segments.”6 Its slogan “Now Everyone Can Fly!” encapsulated AirAsia’s goal of expanding the market for air travel in Southeast Asia. To penetrate its target market, AirAsia placed a big emphasis on marketing and brand development. “The brand is positioned to project an image of a safe, reliable low-cost airline that places a high emphasis on customer service while providing an enjoyable flying experience.” For an LCC, AirAsia had comparatively large expenditures on TV, print, and internet advertising. AirAsia used its advertising expenditures counter-cyclically: during the SARS outbreak and after the Bali bombings, AirAsia boosted its spending on advertising and marketing. In addition, it sought to maximize the amount of press coverage that it received. AirAsia also built its image through co-branding and sponsorship relationships. A sponsorship deal with the AT&T Williams Formula 1 race car team resulted in AirAsia painting one of its A320s in the livery of a Williams race car. Its sponsorship of Manchester United encouraged it to paint its planes with the portraits of Manchester United players. It also sponsored referees in the English Premier League. A cooperative advertising deal with Time magazine resulted in an AirAsia plane being painted with the Time logo. Its internet advertising included banner ads on the Yahoo mobile homepage and a Facebook application for the Citibank–AirAsia credit card. The overall goals were increasing visibility, encouraging interaction, and allowing users to immerse themselves in the AirAsia brand. This heavy emphasis on brand building provided AirAsia with a platform for offering services that met a range of traveler needs. AirAsia offered an AA express shuttle bus connecting airports to city centers with seats being bookable simultaneously with the online booking of plane tickets. Fernandes also founded Tune Hotels, a chain of no-frills hotels co-branded with AirAsia. Tune Money offered online financial services—again co-branded with AirAsia. Culture and Management Style AirAsia’s corporate culture and management style reflected Tony Fernandes’ own personality: informal, friendly, and cheerful. In the same way that culture and brand identity of Southwest Airlines and the Virgin airlines (Virgin Atlantic, Virgin Blue, and Virgin America) reflect the personalities of founders Herb Kelleher and Richard Branson, respectively, Fernandes has used his personality and personal style to create a distinct identity for AirAsia. His usual dress of jeans, open-neck shirt, and baseball cap provide a clear communication of AirAsia’s unstuffy, open culture. Its team spirit, commitment to job flexibility, and lack of hierarchy were reinforced from the top: Fernandes worked one day a month as a baggage handler, one day every two months as cabin crew, and one day every three months as a check-in clerk. The share offer prospectus described AirAsia’s culture as follows: The Group prides itself on building a strong, team-orientated corporate culture. The Group’s employees understand and subscribe to the Group’s core strategy and actively focus on maintaining low costs and high productivity. AirAsia motivates its employees by awarding bonuses based upon each employee’s contribution to AirAsia’s productivity, and expects to increase loyalty through its ESOS [employee CASE 9 AIRASIA: THE WORLD’S LOWEST-COST AIRLINE share ownership scheme] which will be available to all employees. The Group’s management encourages open communication which creates a dynamic working environment, and meets all its employees on a quarterly basis to review AirAsia’s results and generate new ways to lower costs and increase productivity. Employees . . . frequently communicate directly with AirAsia’s senior management and offer suggestions on how AirAsia can increase its efficiency or productivity. . . In addition to the above, AirAsia: ● ● ● ● inculcates enthusiasm and commitment among staff by sponsoring numerous social events and providing a vibrant and friendly working environment strives to be honest and transparent in its relations with third parties. . . fosters a non-discriminatory, meritocratic environment where employees are offered opportunities for advancement, regardless of their education, race, gender, religion, nationality or age, and emphasizes maintaining a constant quality of service throughout all of AirAsia’s operation through bringing together to work on a regular basis employees based in different locations.7 AirAsia’s Operations AirAsia’s operations strategy comprised the following elements: ● ● ● ● Aircraft: In common with other LCCs, AirAsia operated a single type of aircraft, the Airbus A320. (It switched from Boeing 737s in 2005.) A single aircraft type offered economies in purchasing, maintenance, pilot training, and aircraft utilization. No-frills flights: AirAsia offered a single class, which allowed more seats per plane. For example, when it was operating its Boeing 737s, these were equipped with 148 seats, compared to 132 for a typical two-class configuration. Customer services were minimal: complimentary meals and drinks were not served on board—but snacks and beverages could be purchased, passengers paid for baggage beyond a low threshold, and there was no baggage transfer between flights. AirAsia did not use aerobridges for boarding and disembarking passengers, which was another cost-saving measure. Flights were ticketless and there was no assigned seating. Such simplicity allowed quick turnaround of planes, which permitted better utilization of planes and crews. Sales and marketing: AirAsia engaged in direct sales through its website and call center. As a result, it avoided paying commission to travel agents. Outsourcing: AirAsia achieved simplicity and cost economies by outsourcing those activities that could be undertaken more effectively and efficiently by third parties. Thus, most aircraft maintenance was outsourced to third parties, contracts being awarded on the basis of competitive bidding. Most of AirAsia’s information technology requirements were also outsourced. 527 528 CASES TO ACCOMPANY CONTEMPORARY STRATEGY ANALYSIS ● ● Information technology: AirAsia used Navitair’s Open Skies computer reservations system (CRS), which linked Web-based sales and inventory system, which also linked with AirAsia’s call center. The CRS was integrated with AirAsia’s yield management system (YMS) that priced seats on every flight according to demand. The CRS also allowed passengers to print their own boarding passes. In 2006, AirAsia implemented a wireless delivery system which enabled customers to book seats, check flight schedules, and obtain real-time updates on AirAsia’s promotions via their mobile phones—an important facility in the Asia-Pacific region because of the extensive use of mobile phones. The YMS helped AirAsia to maximize revenue by providing trend analysis and optimize pricing; it also gave information on future passenger numbers that was used by AirAsia’s Advanced Planning and Scheduling (APS) system to minimize operational costs by optimizing supply chain and facilities management. These two IT systems allowed AirAsia to reduce costs in logistics and inbound activities. During 2005, AirAsia adopted an ERP (enterprise resource planning) system to support its processes, facilitate month-end financial closing, and speed up reporting and data retrieval.8 This was superseded by an advanced planning and scheduling system, which optimized AirAsia’s supply chain management and forecasted future resource requirements. Human resource management: Human resource management had been a priority for AirAsia since its relaunch under Tony Fernandes. A heavy emphasis was given to selecting applicants on the basis of their aptitudes, then creating an environment and a system which developed employees and retained them. AirAsia’s retention rates were exceptionally high, which it regarded, first, as an indicator of motivation and job satisfaction and as a cost-saving measure—because employees were multi-skilled, AirAsia’s training costs per employee tended to be high. Job flexibility at all levels of the company, including administration, was a major source of productivity for AirAsia. AirAsia: Cost Information To offer a comparative view of AirAsia’s operational efficiency and cost position, Table 1 provides operating and financial information on Malaysia’s two leading airlines: Malaysia Airlines and AirAsia. Although Malaysia Airlines’ route network was very different from that of AirAsia’s (Malaysia Airlines had a larger proportion of long-haul routes), it was subject to similar cost conditions as AirAsia. For the first time since its relaunch in 2002, AirAsia made a loss in 2008. This was the result of Fernandes’ decision to unwind AirAsia’s futures contracts for jet fuel purchased. When crude oil prices started to tumble during the latter half of 2008, Fernandes believed that AirAsia would be better off taking a loss on its existing contracts in order to benefit from lower fuel prices. Going Long-haul Fernandes was aware that expanding from short-haul flights in Southeast Asia to flights of more than four hours to China, Australia, Europe, and the Middle CASE 9 AIRASIA: THE WORLD’S LOWEST-COST AIRLINE TABLE 1 Comparing operational and financial performance between AirAsia and Malaysia Airlines, 2008 Operating data Passengers carried (millions) Available seat kilometers (billions) Revenue passenger kilometers (billions) Seat load factor (%) Cost per available seat kilometers (sena) Revenue per available seat kilometers (sen) Number of aircraft in fleet December 31, 2008 Number of employees Aircraft utilization (hours per day) Financial data (RM, millions)a Revenue Other operating income Total operating expense of which: —Staff costs —Depreciation —Fuel costs —Maintenance and overall —Loss on unwinding derivatives —Other operating expensesb Operating profit Finance cost (net) Pre-tax profit After-tax profit Total assets of which: —Aircraft, property, plant and equipment —Inventories —Cash —Receivables Debt Shareholders’ equity AirAsia Malaysia Airlines 11.81 18.72 13.49 75.0 11.66 14.11 78.0 3,799 11.8 13.76 53.38 36.18 67.8 22.80 20.60 109.0 19,094 11.1 2,635 301.8 2,966.0 15,035 466.0 15,198.3 236.8 347.0 1,389.8 345.1 830.2 139.2 (351.7) 517.5 (869.2) (496.6) 9,520.0 2,179.9 327.9 6,531.6 1,146.4 — 5,020.0 305.5 60.8 264.7 245.6 10,071.6 6,594.3 20.7 153.8 694.4 6,690.8 1,605.5 2,464.8 379.7 3,571.7 2,020.1 433.4 4,197.0 Notes: a RM: Malaysian ringgit; 1 ringgit: 100 sen (cents). During 2008/9 the average exchange rate was US$1 ∙ RM3.43. b For AirAsia the main components were aircraft lease expenses and loss on foreign exchange. For Malaysia Airlines the main components were hire of aircraft, sales commissions, landing fees, and rent of buildings. Sources: Company annual reports. East required major changes in operating practices and major new investments, primarily in bigger planes. The creation of AirAsia X was intended to facilitate a measure of operational independence for the long-haul flights while also spreading the risks of this venture among several investors. The investors in AirAsia X also contributed valuable expertise: Virgin Group had experience in establishing and operating four airlines (Virgin Atlantic, Virgin Express, Virgin Blue, and Virgin USA), and the chairman of Air Ventures was Robert Milton, the former CEO of Air Canada. 529 530 CASES TO ACCOMPANY CONTEMPORARY STRATEGY ANALYSIS TABLE 2 Comparing AirAsia and AirAsia X AirAsia Concept Flying range Aircraft Cabin configuration Seat option In-flight dining AirAsia X Low cost short-haul, no-frills Within four hours’ flying time from departing city Airbus A320 with 180 seats Single class Low cost long-haul, no frills More than four hours’ flying time from departing city Airbus A330 with more than 330 seats Economy and Premium (previously known as XL) Unassigned seating, plus Assigned seating with seat request option Xpress Boarding option Range of light meals and Pre-ordered full meals available including Asian, snacks available for purchase Western, vegetarian, and kids’ meal; light snacks onboard also available for purchase onboard Source: AirAsia websites www.airasia.com and www.airasiax.com. Table 2 shows the principal differences in AirAsia and AirAsia X’s operations and services. Kuala Lumpur to London: Price and Cost Comparisons A comparison of prices and costs allows a clearer picture of AirAsia’s ability to compete in the long-haul market—a market in which AirAsia had to establish itself against some of the world’s major airlines. Between KL and London, AirAsia was in competition with at least six international airlines, the closest of which were Malaysia Airlines, Emirates, and British Airways. A comparison of economy, round-trip airfares between the two cities is shown in Table 3. As Table 4 shows, these fare differentials reflected differences in cost between AirAsia and its long-haul competitors. These cost differences do not take account of differences in load factors, which can have a major effect on the average cost per passenger. AirAsia reported that its KL–London flights had a load factor in excess of 90%. For the airlines as a whole, Table 5 shows load factors. TABLE 3 Fare comparisons: AirAsia and its competitors between Kuala Lumpur and London AirAsia Xa (US$) Cheapest other AirAsia price Cheapest other airlineb (US$) advantage (%) airlines KL–London round trip 433.96c 683.68 36.5 London–KL round trip 433.96c 530.35 18.2 1. Gulf Air 2. Qatar Air 3. Emirates 1. Emirates 2. Etihad 3. Gulf Air Notes: a Average fare between September 1 and October 1, 2009. b Average of lowest airline fare on each day between September 1 and October 1, 2009. c Average outbound fare: $187.87; average inbound fare: $209.48; meals and baggage charges: $36.61. CASE 9 AIRASIA: THE WORLD’S LOWEST-COST AIRLINE TABLE 4 Flight operating cost comparison: Kuala Lumpur to London (in US$) AirAsia Aircraft type Routea Maximum passenger capacity British Airways Airbus 340-300 KUL–STN 286 Flight fuel cost Leasing costs En route navigation charges Terminal navigation arrival charges Landing/parking Departure handling Arrival handling Segment totals Total cost per flightb Average cost per passengerb Boeing 747-400 KUL–LHR 337 Malaysia Airlines Emirates Boeing 747-400 KUL–LHR 359 Boeing 777-300 KUL–DXB–LHR 360 KUL–DXB DXB–LHR 79,299 5,952 7,949 419 159,522 0 12,294 645 159,522 0 12,294 645 77,525 0 1,435 0 80,822 0 6,613 645 1,100 6,000 6,000 2,200 12,000 12,000 2,200 12,000 12,000 2,200 12,000 12,000 114,280 106,719 373.14 198,661 589.50 198,661 553.37 2,200 12,000 12,000 105,160 219,440 609.56 Notes: a KUL = Kuala Lumpur, STN = London Stansted, LHR = London Heathrow, DXB = Dubai. b Excluding maintenance, depreciation, meal services, and crew salaries. Source: S. Buchholz, N. Fabio, A. Ileyassoff, L. Mang, and D. Visentin, AirAsia: Tales from a Long-haul Low Cost Carrier (Bocconi University, 2009). Data based on NewPacs Aviation Tool Software. Used by permission of the authors. The Outlook for Long-haul There can be little doubt that AirAsia had been remarkably successful in building a budget airline in Southeast Asia. Its cost efficiency, growth rate, brand awareness, and awards for customer service, airline management, and entrepreneurship all pointed to outstanding achievement, not simply in replicating the LCC business model pioneered by Southwest Airlines but in adapting that model and augmenting it with innovation, dynamism, and marketing flair that derived from Tony Fernandes’ personality and leadership style. However, its AirAsia X venture presented a whole set of new challenges. AirAsia had successfully transferred several of its competitive advantages from AirAsia to AirAsia X. The low costs associated with fuel-efficient new planes, secondary airports, and human resources practices had allowed AirAsia X to become the low-cost TABLE 5 Difference between airlines in load factors (%) AirAsia Emirates British Airways Malaysia Airlines 2004 2005 2006 2007 2008 77.0 73.4 67.6 69.0 75.0 74.6 69.7 71.5 78.0 75.9 70.0 69.8 80.0 76.2 70.4 71.4 75.5 79.8 71.2 67.8 Source: S. Buchholz, N. Fabio, A. Ileyassoff, L. Mang, and D. Visentin, “AirAsia: Tales from a Long-haul Low Cost Carrier,” (case report, Bocconi University, 2009). Used by permission of the authors. 531 532 CASES TO ACCOMPANY CONTEMPORARY STRATEGY ANALYSIS operator on most of its routes. The AirAsia brand and corporate reputation provided AirAsia X with credibility on each new route it inaugurated. By sharing web-based and telephone flight booking systems along with administrative and operational services between the two airlines, AirAsia X was able to secure cost efficiencies that would not be possible for an independent start-up. Nevertheless, doubts remained over AirAsia X’s ability to compete with established international airlines. Unlike AirAsia, which was attracting a whole new market for domestic and regional air travel, AirAsia X would have to take business away from the established international airlines whose business models offered some key competitive advantages over that of long-haul LCCs. In particular, the dense domestic and regional route networks of the established carriers offered feeds for their intercontinental flights. These complementarities were supported by throughticketing, baggage transfer, and frequent-flyer schemes. Their sources of profit were very different from the LCCs: most of their profit was earned from first- and business-class travelers, which permitted subsidization of economy-class fares. These challenges pointed to the advantages of closer integration of AirAsia X with AirAsia. AirAsia X’s CEO, Azran Osman-Rani, had argued for the operational and financial rationale of merging AirAsia X into AirAsia: “It would be difficult for AirAsia in the future if it did not have trunk routes as [this] is where the traffic volumes come from, so AirAsia needs growth from AirAsia X and the merger allows it to tap growth opportunities in the long-haul markets.” Responding to allegations that the real rationale for the merger was to allow AirAsia to finance AirAsia X’s losses, Azran said: “Rubbish, we can clearly dispute that. For the first quarter ended March 31, 2009 our net profit was RM 18 million and we are net cash flow positive. We even had a little cash at RM 3 million. We are in a very good position and on a much firmer footing and now is an interesting time to talk about a merger.”9 Notes 1. Operating profit before depreciation, amortization, and interest as a percentage of average total assets. 2. See www.tonyfernandesblog.com, accessed June 3, 2009. Website no longer available. 3. Quoted by T. Lawton and J. Doh, The Ascendance of AirAsia: Building a Successful Budget Airline in Asia (Ivey School of Business, Case No. 9B08M054, 2008). 4. “AirAsia X to Hub in Abu Dhabi: AirAsia CEO,” Khaleej Times (August 5, 2009). 5. “Corporate Profile,” http://www.airasia.com/ot/en/ about-us/corporate-profile.page, accessed July 20, 2015. 6. “AirAsia Berhad,” Offering Circular (October 29): 3. 7. Ibid.: 5. 8. C. Cho, S. Hoffman Arian, C. Tjitrahardja, and R. Narayanaswamy, AirAsia: Strategic IT Initiative (student report, Faculty of Economics and Commerce, University of Melbourne, 2005). 9. “AirAsia X CEO backs Merger with AirAsia Bhd,” The Star Online ( July 23, 2009), http://www.thestar. com.my/Story/?file=%2F2009%2F7%2F23%2Fbusiness %2F4369512, accessed July 20, 2015. ROBERT M. GRANT CONTEMPORARY STRATEGY ANALYSIS Te xt a Ed nd it io Cas n es N I N T H E d iti o n C o n te m po r a r y S t r ate gy A na lys i s T ex t a n d Ca s e s C o ntemporary Strategy An alysis T e xt a n d ca se s Ninth Edition Robert M. Grant Copyright © 2016, 2013, 2010 Robert M. Grant All effort has been made to trace and acknowledge ownership of copyright. The publisher would be glad to hear from any copyright holders whom it has not been possible to contact. 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Set in 10/12pt ITC Garamond Std by Aptara Inc., India Printed in Great Britain by TJ International, Padstow, Cornwall To Liam, Ava, Finn, Evie, Max, Lucy, and Bobby BRIEF CONTENTS Preface to Ninth Edition xv PART I INTRODUCTION 1 1 3 The Concept of Strategy PART II THE TOOLS OF STRATEGY ANALYSIS 33 2 Goals, Values, and Performance 35 3 Industry Analysis: The Fundamentals 63 4 Further Topics in Industry and Competitive Analysis 89 5 Analyzing Resources and Capabilities 113 6 Organization Structure and Management Systems: The Fundamentals of Strategy Implementation 139 PART III BUSINESS STRATEGY AND THE QUEST FOR COMPETITIVE ADVANTAGE 165 7 The Sources and Dimensions of Competitive Advantage 167 8 Industry Evolution and Strategic Change 205 9 Technology-based Industries and the Management of Innovation 241 10 Competitive Advantage in Mature Industries 273 PART IV CORPORATE STRATEGY 289 11 Vertical Integration and the Scope of the Firm 291 12 Global Strategy and the Multinational Corporation 311 13 Diversification Strategy 341 viii BRIEF CONTENTS 14 Implementing Corporate Strategy: Managing the Multibusiness Firm 361 15 External Growth Strategies: Mergers, Acquisitions, and Alliances 389 16 Current Trends in Strategic Management 409 Cases to Accompany Contemporary Strategy Analysis, Ninth Edition 427 Glossary Index 727 735 CONTENTS Preface to Ninth Edition xv PART I INTRODUCTION 1 1 3 The Concept of Strategy Introduction and Objectives The Role of Strategy in Success The Basic Framework for Strategy Analysis A Brief History of Business Strategy Strategy Today How Is Strategy Made? The Strategy Process Strategic Management of Not-For-Profit Organizations Summary Self-Study Questions Notes 4 4 9 12 15 21 25 28 29 30 PART II THE TOOLS OF STRATEGY ANALYSIS 33 2 Goals, Values, and Performance 35 Introduction and Objectives Strategy as a Quest for Value Putting Performance Analysis into Practice Beyond Profit: Values and Corporate Social Responsibility Beyond Profit: Strategy and Real Options Summary Self-Study Questions Notes 36 37 43 51 55 58 59 60 Industry Analysis: The Fundamentals 63 Introduction and Objectives From Environmental Analysis to Industry Analysis Analyzing Industry Attractiveness Applying Industry Analysis to Forecasting Industry Profitability Using Industry Analysis to Develop Strategy Defining Industries: Where to Draw the Boundaries 64 64 66 76 77 80 3 x CONTENTS 4 5 6 From Industry Attractiveness to Competitive Advantage: Identifying Key Success Factors Summary Self-Study Questions Notes 82 86 87 87 Further Topics in Industry and Competitive Analysis 89 Introduction and Objectives Extending the Five Forces Framework Dynamic Competition: Hypercompetition, Game Theory, and Competitor Analysis Segmentation and Strategic Groups Summary Self-Study Questions Notes 90 90 93 102 109 109 110 Analyzing Resources and Capabilities 113 Introduction and Objectives The Role of Resources and Capabilities in Strategy Formulation Identifying Resources and Capabilities Appraising Resources and Capabilities Developing Strategy Implications Summary Self-Study Questions Notes 114 114 118 126 130 136 137 138 Organization Structure and Management Systems: The Fundamentals of Strategy Implementation 139 Introduction and Objectives From Strategy to Execution Organizational Design: The Fundamentals of Organizing Organizational Design: Choosing the Right Structure Summary Self-Study Questions Notes 140 141 144 154 161 162 163 PART III BUSINESS STRATEGY AND THE QUEST FOR COMPETITIVE ADVANTAGE 165 7 The Sources and Dimensions of Competitive Advantage 167 Introduction and Objectives How Competitive Advantage Is Established and Sustained Types of Competitive Advantage: Cost and Differentiation Cost Analysis 168 168 178 178 CONTENTS   xi 8 9 Differentiation Analysis Implementing Cost and Differentiation Strategies Summary Self-Study Questions Notes 186 197 200 200 201 Industry Evolution and Strategic Change 205 Introduction and Objectives The Industry Life Cycle The Challenge of Organizational Adaptation and Strategic Change Managing Strategic Change Summary Self-Study Questions Notes 206 207 216 221 235 236 237 Technology-based Industries and the Management of Innovation 241 Introduction and Objectives Competitive Advantage in Technology-intensive Industries Strategies to Exploit Innovation: How and When to Enter Standards, Platforms, and Network Externalities Platform-based Markets Implementing Technology Strategies: Creating the Conditions for Innovation Accessing External Sources of Innovation Summary Self-Study Questions Notes 10 Competitive Advantage in Mature Industries Introduction and Objectives Competitive Advantage in Mature Industries Strategy Implementation in Mature Industries: Structure, Systems, and Style Strategies for Declining Industries Summary Self-Study Questions Notes 242 243 250 255 258 262 263 269 270 271 273 274 274 280 282 286 286 287 PART IV CORPORATE STRATEGY 289 11 Vertical Integration and the Scope of the Firm 291 Introduction and Objectives Transaction Costs and the Scope of the Firm The Benefits and Costs of Vertical Integration 292 293 294 xii CONTENTS The Benefits from Vertical Integration The Costs of Vertical Integration Applying the Criteria: Deciding Whether to Make or Buy Designing Vertical Relationships Different Types of Vertical Relationship Choosing among Alternative Vertical Relationships Recent Trends Summary Self-Study Questions Notes 297 298 302 302 304 305 306 307 307 308 12 Global Strategy and the Multinational Corporation 311 Introduction and Objectives Implications of International Competition for Industry Analysis Analyzing Competitive Advantage in an International Context Internationalization Decisions: Locating Production Internationalization Decisions: Entering a Foreign Market Multinational Strategies: Global Integration versus National Differentiation Implementing International Strategy: Organizing the Multinational Corporation Summary Self-Study Questions Notes 13 Diversification Strategy Introduction and Objectives Motives for Diversification Competitive Advantage from Diversification Diversification and Performance The Meaning of Relatedness in Diversification Summary Self-Study Questions Notes 312 313 315 318 322 324 331 337 338 339 341 342 343 348 352 355 356 357 358 14 Implementing Corporate Strategy: Managing the Multibusiness Firm 361 Introduction and Objectives The Role of Corporate Management Managing the Corporate Portfolio Managing Linkages Across Businesses Managing Individual Businesses Managing Change in the Multibusiness Corporation Governance of Multibusiness Corporations 362 363 363 366 369 376 381 CONTENTS   xiii Summary Self-Study Questions Notes 15 External Growth Strategies: Mergers, Acquisitions, and Alliances Introduction and Objectives Mergers and Acquisitions Strategic Alliances Summary Self-Study Questions Notes 16 Current Trends in Strategic Management Introduction The New Environment of Business New Directions in Strategic Thinking Redesigning Organizations The Changing Role of Managers Summary Notes 386 386 387 389 390 391 401 406 407 407 409 410 410 415 419 422 424 424 CASES TO ACCOMPANY CONTEMPORARY STRATEGY ANALYSIS, Ninth EDITION 427 1 Tough Mudder Inc.: The Business of Mud Runs 435 2 442 Starbucks Corporation, May 2015 3 Kering SA: Probing the Performance Gap With LVMH 459 4 Pot of Gold? The US Legal Marijuana Industry 466 5 The US Airline Industry in 2015 472 6 Wal-Mart Stores, Inc., June 2015 487 7 Harley-Davidson, Inc., May 2015 502 8 BP: Organizational Structure and Management Systems 516 xiv CONTENTS 9 AirAsia: The World’s Lowest-cost Airline 523 10 Chipotle Mexican Grill, Inc.: Disrupting the Fast-food Business 533 11 Ford and the World Automobile Industry in 2015 542 12 Eastman Kodak’s Quest for a Digital Future 557 13 Tesla Motors: Disrupting the Auto Industry 576 14 Video Game Console Industry in 2015 587 15 New York Times: The Search for a New Business Model 598 16 Eni SpA: The Corporate Strategy of an International Energy Major 608 17 American Apparel: Vertically Integrated in Downtown LA 628 18 Chipotle Mexican Grill, Inc.: The International Challenge 639 19 Haier Group: Internationalization Strategy 645 20 The Virgin Group in 2015 655 21 Google Is Now Alphabet—But What’s the Corporate Strategy? 668 22 Jeff Immelt and the New General Electric 681 23 Bank of America’s Acquisition of Merrill Lynch 702 24 W. L. Gore & Associates: Rethinking Management? 718 Glossary Index 727 735 Pr eface t o ninth E dition Contemporary Strategy Analysis equips managers and students of management with the concepts, frameworks, and techniques needed to make better strategic decisions. My goal is a strategy text that reflects the dynamism and intellectual rigor of this fast-developing field of management and takes account of the strategy issues that companies face today. Contemporary Strategy Analysis endeavors to be both rigorous and relevant. While embodying the latest thinking in the strategy field, it aims to be accessible to students from different backgrounds and with varying levels of experience. I achieve this accessibility by combining clarity of exposition, concentration on the fundamentals of value creation, and an emphasis on practicality. This ninth edition maintains the book’s focus on the essential tasks of strategy: identifying the sources of superior business performance and formulating and implementing a strategy that exploits these performance drivers. At the same time, the content of the book has been revised to reflect recent developments in the business environment and in strategy research and to take account of feedback from instructors. Distinctive features of the ninth edition include: ● ● ● ● ● an explicit guide of how to apply strategy analysis in order to generate strategy recommendations (see “Applying Strategy Analysis” in Chapter 1); further development of the role of stakeholder orientation and corporate social responsibility within a value creating view of the firm (see “Beyond Profit: Values and Corporate Social Responsibility” in Chapter 2); an increased emphasis on inter-industry linkages including complements, business ecosystems, and platform strategies, especially in digital markets (Chapters 4 and 9); a more comprehensive treatment of strategy implementation; while maintaining an integrated approach to strategy formulation and strategy implementation (the chapters on strategic change, technology, mature industries, global strategies, and diversification address both the formulation and implementation of strategy), Chapters 6, 14, and 15 offer a systematic approach to strategy execution; greater emphasis on cooperative strategies, especially strategic alliances (Chapter 15). There is little in Contemporary Strategy Analysis that is original: I have plundered mercilessly the ideas, theories, and evidence of fellow scholars. My greatest debts are to my colleagues and students at the business schools where this book has been xvi Preface to ninth Edition developed and tested, notably Georgetown University, Bocconi University, London Business School, City University’s Cass Business School, Cal Poly, UCLA’s Anderson School, and Mumbai International School of Business. I have also benefitted from feedback and suggestions from professors and students in the many other schools where Contemporary Strategy Analysis has been adopted. I look forward to continuing my engagement with users. I am grateful for the professionalism and enthusiasm of the editorial, production, and sales and marketing teams at John Wiley & Sons, Ltd, especially to Steve Hardman, Juliet Booker, Joshua Poole, Catriona King, Deb Egleton, Joyce Poh, Tim Bettsworth, and Dom Wharram—I couldn’t wish for better support. Robert M. Grant I INTRODUCTION 1 The Concept of Strategy 1 The Concept of Strategy Strategy is the great work of the organization. In situations of life or death, it is the Tao of survival or extinction. Its study cannot be neglected. —SUN TZU, THE ART OF WAR To shoot a great score you need a clever strategy. —RORY MCILROY, GOLF MONTHLY, MAY 19, 2011 Everybody has a plan until they get punched in the mouth. —MIKE TYSON, FORMER WORLD HEAVYWEIGHT BOXING CHAMPION OUTLINE ◆◆ Introduction and Objectives ●● Corporate and Business Strategy ◆◆ The Role of Strategy in Success ●● Describing Strategy ◆◆ The Basic Framework for Strategy Analysis ●● ◆◆ ◆◆ ◆◆ Strategic Fit A Brief History of Business Strategy ●● Origins and Military Antecedents ●● From Corporate Planning to Strategic Management How Is Strategy Made? The Strategy Process ●● Design versus Emergence ●● The Role of Analysis in Strategy Formulation ●● Applying Strategy Analysis ◆◆ Strategic Management of Not-For-Profit Organizations ◆◆ Summary Strategy Today ●● What Is Strategy? Why Do Firms Need Strategy? ◆◆ ●● Self-Study Questions ●● Where Do We Find Strategy? ◆◆ Notes 4 Part I introduction Introduction and Objectives Strategy is about achieving success. This chapter explains what strategy is and why it is important to success, for both organizations and individuals. We will distinguish strategy from planning. Strategy is not a detailed plan or program of instructions; it is a unifying theme that gives coherence and direction to the actions and decisions of an individual or an organization. The principal task of this chapter will be to introduce the basic framework for strategy analysis that underlies this book. I will introduce the two basic components of strategy analysis: analysis of the external environment of the firm (mainly industry analysis) and analysis of the internal environment (primarily analysis of the firm’s resources and capabilities). By the time you have completed this chapter, you will be able to: ◆◆ Appreciate the contribution that strategy can make to successful performance, both for individuals and for organizations, and recognize the key characteristics of an effective strategy. ◆◆ Comprehend the basic framework of strategy analysis that underlies this book. ◆◆ Recognize how strategic management has evolved over the past 60 years. ◆◆ Identify and describe the strategy of a business enterprise. ◆◆ Understand how strategy is made within organizations. ◆◆ Recognize the distinctive features of strategic management among not-for-profit organizations. Since the purpose of strategy is to help us to win, we start by looking at the role of strategy in success. The Role of Strategy in Success Strategy Capsules 1.1 and 1.2 describe the careers of two individuals, Queen Elizabeth II and Lady Gaga, who have been outstandingly successful in leading their organizations. Although these two remarkable women operate within vastly different arenas, can their success be attributed to any common factors? For neither of these successful women can success be attributed to overwhelmingly superior resources. For all of Queen Elizabeth’s formal status as head of state, she has very little real power and, in most respects, is a servant of the democratically elected British government. Lady Gaga is clearly a creative and capable entertainer, but few would claim that she has outstanding talents as a vocalist, musician, or songwriter. Nor can their success be attributed either exclusively or primarily to luck. Indeed, Queen Elizabeth has experienced a succession of difficulties and tragedies, while Lady Gaga has experienced setbacks (e.g. the cancelation of her first recording chapter 1 The Concept of Strategy   5 contract and various health problems). Central to their success has been their ability to respond to events—whether positive or negative—with flexibility and clarity of direction. My contention is that common to both the 60-year successful reign of Queen Elizabeth II and the short but stellar career of Lady Gaga is the presence of a soundly formulated and effectively implemented strategy. While these strategies did not exist as explicit plans, for both Queen Elizabeth and Lady Gaga we can discern a consistency of direction based clear goals and a keen awareness of how to maneuver into a position of advantage. Elizabeth Windsor’s strategy as queen of the UK and the Commonwealth countries may be seen in the role she has created for herself in relation to her people. As queen she is figurehead for the nation, an embodiment of the stability and continuity of the nation, a symbol of British family and cultural life, and an exemplar of service and professional dedication. Lady Gaga’s remarkable success during 2008-15 reflects a career strategy that uses music as her gateway, upon which she has built a celebrity status by combining the generic tools of star creation—shock value, fashion leadership, and media presence— with a uniquely differentiated image that has captured the imagination and affection of teenagers and young adults throughout the world. What do these two examples tell us about the characteristics of a strategy that are conducive to success? In both stories, four common factors stand out (Figure 1.1): ●● ●● ●● ●● Goals that are consistent and long term: Both Queen Elizabeth and Lady Gaga display a focused commitment to career goals that they have pursued steadfastly. Profound understanding of the competitive environment: The ways in which both Elizabeth II and Gaga define their roles and pursue their careers reveal a deep and insightful appreciation of the external environments in which they operate. Queen Elizabeth has been alert both to the changing political environment in which the monarchy is situated and to the mood and needs of the British people. Lady Gaga’s business model and strategic positioning show a keen awareness of the changing economics of the music business, the marketing potential of social networking, and the needs of Generation Y. Objective appraisal of resources: Both Queen Elizabeth and Lady Gaga have been adept at recognizing and deploying the resources at their disposal. Both, too, have been aware of the limits of those resources and drawn upon the resources of others—Queen Elizabeth through her family, the royal household, and a network of loyal supporters; Lady Gaga upon the variety of talents in her Haus of Gaga. Effective implementation: Without effective implementation, the best-laid strategies are of little use. Critical to the success of Queen Elizabeth and Lady Gaga has been their effectiveness as leaders and the creation of loyal, supportive organizations to provide decision support and operational implementation. These observations about the role of strategy in success can be made in relation to most fields of human endeavor. Whether we look at warfare, chess, politics, sport, or business, the success of individuals and organizations is seldom the outcome 6 Part I introduction STRATEGY CAPSULE 1.1 Queen Elizabeth II and the House of Windsor By late 2015, Elizabeth Windsor had been queen for Head of Nation” where she “acts as a focus for national 63 years—longer than any of her predecessors. identity, unity and pride; gives a sense of stability and At her birth on April 21, 1926, hereditary monar- continuity; officially recognises success and excel- chies were common throughout the world. Apart from lence; and supports the ideal of voluntary service” the British Empire, 45 countries had this form of gov- (www.royal.gov.uk). ernment. By 2015, the forces of democracy, modernity, How has Queen Elizabeth been able to retain not and reform had reduced these to 26—mostly small just the formal position of the monarchy but also its autocracies such as Bahrain, Qatar, Oman, Kuwait, status, influence, and wealth despite the challenges of Bhutan, and Lesotho. Monarchies had also survived the past 60 years? These challenges include the social in Denmark, Sweden, Norway, the Netherlands, and and political changes which have swept away most of Belgium, but these royal families had lost most of their the privileges conferred by hereditary status (including wealth and privileges. the exclusion of most hereditary lords from the House By contrast, the British royal family retains consid- of Lords, Britain’s upper chamber of Parliament) and erable wealth—the Queen’s personal net worth was the internal challenges presented by such a famously estimated by Forbes magazine at $500 million—not dysfunctional family—including the failed marriages of including the $10 billion worth of palaces and other most of her family members and the controversy that real estate owned by the nation but used by her and surrounded the life and death of her daughter-in-law, her family. Queen Elizabeth’s formal status is head of Diana, Princess of Wales. state of the UK and 15 other Commonwealth coun- At the heart of Elizabeth’s sustaining of the British tries (including Canada and Australia), head of the monarchy has been her single-minded devotion to Church of England, and head of the British armed what she regards as her duties to the monarchy and forces. Yet none of these positions confers any deci- to the nation. Throughout her 60-year reign she has sion making power—her influence comes from cultivated the role of leader of her nation—a role that the informal role she has established for herself. she has not compromised by pursuit of personal or According to her website, she “has a less formal role as family interests. In pursing this role she has recognized of a purely random process. Nor is superiority in initial endowments of skills and resources typically the determining factor. Strategies that build on these four elements almost always play an influential role. Look at the “high achievers” in any competitive area. Whether we review the world’s political leaders, the CEOs of the Fortune 500, or our own circles of friends and acquaintances, those who have achieved outstanding success in their careers are seldom those who possessed the greatest innate abilities. Success has gone to those who managed their careers most effectively, typically by combining these four strategic factors. They are goal focused; their career goals have taken primacy over the multitude of life’s other goals—friendship, love, leisure, knowledge, spiritual fulfillment—which the majority of us spend most of our lives juggling chapter 1 The Concept of Strategy   7 the need for political neutrality—even when she has relations strategy has been carefully managed by a personally disagreed with her prime ministers (notably group of top professionals who report to her private with Margaret Thatcher’s “socially divisive” policies and secretary. Tony Blair’s commitment of British troops to Iraq and Afghanistan). While respecting tradition and protocol, she adapts in the face of pressing circumstances. The Through her outreach activities she has played a death of her daughter-in-law, Diana, created difficult major role in promoting British influence, British cul- tensions between her responsibilities as a grand- ture, and British values within the wider world. She has mother and her need to show leadership to a griev- made multiple visits to each of the 54 Commonwealth ing nation. In responding to this time of crisis she nations, including 26 to Canada and 16 to Australia. departed from several established traditions: includ- Maintaining her popularity with the British people has required adaptation to the wrenching changes ing bowing to the coffin of her ex-daughter-in-law as it passed the palace. of her era. Recognizing the growing unacceptability Elizabeth has made effective use of the resources of hereditary privilege and the traditional British class available to her. First and foremost of these has been system, she has repositioned the royal family from the underlying desire of the British people for conti- being the leader of the ruling class to an embodiment nuity and their inherent distrust of their political lead- of the nation as a whole. To make her and her family ers. By positioning herself above the political fray and more inclusive and less socially stereotyped she culti- emphasizing her lineage—including the prominent vated involvement with popular culture, with ordinary public roles of her mother and her children and grand- people engaged in social service and charitable work, children—she reinforces the legitimacy of herself, her and, most recently, endorsing the marriage of her family, and the institution they represent. She has also grandson William to Kate Middleton—the first mem- exploited her powers of patronage, using her formal ber of the royal family to marry outside the ranks of the position to cultivate informal relationships with both aristocracy. political and cultural leaders. Elizabeth has been adept at exploiting new media. The success of Elizabeth’s 63-year reign is indicated Television has provided an especially powerful medium by the popular support for her personally and for for communicating both with her subjects and with the institution of the monarchy. Outside of Northern a wider global audience. Her web page appeared Ireland, the UK lacks any significant republican move- in 1997, in 2009 she joined Twitter, and in 2010 ment; republicanism is also weak in Canada and Facebook. Throughout her reign, her press and public Australia. and reconciling. They know the environments within which they play and tend to be fast learners in terms of recognizing the paths to advancement. They know themselves well in terms of both strengths and weaknesses. Finally, they implement their career strategies with commitment, consistency, and determination. As the late Peter Drucker observed: “we must learn how to be the CEO of our own careers.”1 There is a downside, however. Focusing on a single goal may lead to outstanding success but may be matched by dismal failure in other areas of life. Many people who have reached the pinnacles of their careers have led lives scarred by poor relationships with friends and families and stunted personal development. These include Howard Hughes and Jean Paul Getty in business, Richard Nixon and 8 Part I introduction STRATEGY CAPSULE 1.2 Lady Gaga and the Haus of Gaga Stefani Joanne Angelina Germanotta, better known as However, music is only one element in the Lady Lady Gaga, is one of the most successful popular enter- Gaga phenomenon—her achievement is not so much tainers to emerge in the 21st century. Since releasing her as a singer or songwriter as in establishing a persona first album, The Fame, in 2008 she has certified album which transcends pop music. Like David Bowie and sales of 27 million, swept leading music awards including Madonna before her, Lady Gaga is famous for being Grammy, MTV, and Billboards, topped Forbes Celebrity 100 Lady Gaga. To do this requires a multi-media, multi- list, and generated $382 million in ticket sales for her 2012 faceted offering that comprises an integrated array “Born this Way” tour. Her 79 concerts during her 2014 of components including music, visual appearance, “Artrave: The Artpop Ball” tour generated $271 million. newsworthy events, a distinctive attitude and person- Since dropping out of NYU’s Tisch School of the Arts ality, and a set of values with which fans can identify. in 2005, Germanotta has shown total commitment to Key among these is visual impact and theatricality. advancing her musical career, first as a songwriter, and Her hit records were heavily promoted by the visu- then developing her Lady Gaga persona. Her debut ally stunning music videos that accompanied them. album, The Fame, and its follow up, The Fame Monster, Paparazzi and Bad Romance each won best video yielded a succession of number-one hits during 2009 awards at the 2009 and 2010 Grammies; the latter is and 2010. the second-most-downloaded YouTube video of all Gaga’s music is a catchy mix of pop and dance, well time. Most striking of all has been Lady Gaga’s dress suited to dance clubs and radio airplay. It features good and overall appearance, which have set new stan- melodies, Gaga’s capable singing voice, and her reflec- dards in eccentricity, innovation, and impact. Individual tions on society and life, but it is hardly exceptional or outfits—her plastic bubble dress, meat dress, and innovative: music critic Simon Reynolds described it “decapitated-corpse dress”—together with weird hair- as: “ruthlessly catchy, naughties pop glazed with Auto- dos, extravagant hats, and extreme footwear (she met Tune and undergirded with R&B-ish beats.” President Obama in 16-inch heels)—are as well-known Figure 1.1 Common elements in successful strategies Successful strategy EFFECTIVE IMPLEMENTATION Clear, consistent, long-term goals Profound understanding of the competitive environment Objective appraisal of resources chapter 1 The Concept of Strategy   9 as her hit songs. The range of visual images she projects more as social statements of non-conformity than is so varied that her every appearance creates a buzz of as fashion statements. In communicating her expe- anticipation as to her latest incarnation. riences of alienation and bullying at school and her More than any other star, Lady Gaga has developed a values of individuality, sexual freedom, and accep- business model that recognizes the realities of – tance of differences—reinforced through her involve- digital world of entertainment. Like Web 2.0 pioneers such ment in charities and gay rights events—she has built as Facebook and Twitter, Gaga has followed the model: a global fan base that is unusual in its loyalty and first build market presence, and then think about mon- commitment. The sense of belonging is reinforced etizing that presence. Her record releases are accompa- by gestures and symbols such as the “Monster Claw” nied, sometimes preceded, by music videos on YouTube. greeting and the “Manifesto of Little Monsters.” As With 45 million Facebook fans, 15.8 m ­ illion Twitter fol- “Mother Monster,” Gaga is spokesperson and guru for lowers, and 1.9 billion YouTube views (as of November this community. 16, 2011), Famecount crowned her “most popular liv- Lady Gaga’s most outstanding talents are her show- ing musician online.” Her networking with fans includes manship and theatricality. Modeled on Andy Warhol’s Gagaville, an interactive game developed by Zynga, and “Factory,” The Haus of Gaga is her creative workshop The Backplane, a music-based social network. and augments her own capabilities. It includes man- Her emphasis on visual imagery reflects the ways ager Troy Carter, choreographer and creative director in which her fame is converted into revenues. While Laurieann Gibson, fashion director Nicola Formichetti, music royalties are important, concerts are her primary hair stylist Frederic Aspiras, stylist and designer Anna revenue source. Other revenue sources—endorse- Trevelyan, fashion photographer Nick Night, makeup ments, product placement in videos and concerts, artist Tara Savelo, marketing director Bobby Campbell, merchandizing deals, and media appearances—also and others involved in designing and producing songs, link closely with her visual presence. videos, concert sets, photo shoots, and the whole A distinctive feature of Gaga’s market presence is her relationship with her fans. The devotion of her fans—her “Little Monsters”—is based less on their desire to emulate her look as upon empathy with her values and attitudes. They recognize Gaga’s images range of Gaga’s public appearances. Sources: M. Sala, “The Strategy of Lady Gaga,” BSc thesis Bocconi University, Milan, June 2011; http://www.statisticbrain.com/ lady-gaga-career-statistics, accessed July 20, 2015; http:// en.wikipedia.org/wiki/Lady_Gaga, accessed July 20, 2015. Joseph Stalin in politics, Elvis Presley and Marilyn Monroe in entertainment, Mike Tyson and O. J. Simpson in sport, and Bobby Fischer in chess. Fulfillment in our personal lives is likely to require broad-based lifetime strategies.2 These same ingredients of successful strategies—clear goals, understanding the competitive environment, resource appraisal, and effective implementation—form the key components of our analysis of business strategy. The Basic Framework for Strategy Analysis Figure 1.2 shows the basic framework for strategy analysis that we shall use throughout the book. The four elements of a successful strategy shown in Figure 1.1 are recast into two groups—the firm and the industry environment—with strategy 10 Part I introduction Figure 1.2 The basic framework: Strategy as a link between the firm and its environment THE FIRM • Goals and Values • Resources and Capabilities • Structure and Systems THE INDUSTRY ENVIRONMENT STRATEGY • Competitors • Customers • Suppliers forming a link between the two. The firm embodies three of these elements: goals and values (“simple, consistent, long-term goals”), resources and capabilities (“objective appraisal of resources”), and structure and systems (“effective implementation”). The industry environment embodies the fourth (“profound understanding of the competitive environment”) and is defined by the firm’s relationships with competitors, customers, and suppliers. This view of strategy as a link between the firm and its industry environment has close similarities with the widely used SWOT framework. However, as I explain in Strategy Capsule 1.3, a two-way classification of internal and external forces is superior to the four-way SWOT framework. The task of business strategy, then, is to determine how the firm will deploy its resources within its environment and so satisfy its long-term goals, and how it will organize itself to implement that strategy. Strategic Fit Fundamental to this view of strategy as a link between the firm and its external environment is the notion of strategic fit. This refers to the consistency of a firm’s strategy, first, with the firm’s external environment and, second, with its internal environment, especially with its goals and values and resources and capabilities. A major reason for the decline and failure of some companies comes from their having a strategy that lacks consistency with either the internal or the external environment. The decline of Nokia (which lost over 90% of its stock market value in the four years up to July 2012) may be attributed to a strategy which failed to take account of a major change in its external environment: the growing consumer demand for smartphones. Other companies struggle to align their strategies to their internal resources and capabilities. A critical issue for Nintendo will be whether it possesses the financial and technological resources to continue to compete head-to-head with Sony and Microsoft in the market for video game consoles. The concept of strategic fit also relates to the internal consistency among the different elements of a firm’s strategy. Effective strategies are ones where functional strategies and individual decisions are aligned with one another to create a consistent strategic position and direction of development. This notion of internal fit is central to Michael Porter’s conceptualization of the firm as an activity system. chapter 1 The Concept of Strategy   11 STRATEGY CAPSULE 1.3 What’s Wrong with SWOT? Distinguishing between the external and the inter- and who may intimidate his younger team members, nal environment of the firm is common to most he is a weakness. approaches to strategy analysis. The best-known Is global warming a threat or an opportunity for the and most widely used of these approaches is the world’s automobile producers? By encouraging higher “SWOT” framework, which classifies the various taxes on motor fuels and restrictions on car use, it is influences on a firm’s strategy into four categories: a threat. By encouraging consumers to switch to fuel- Strengths, Weaknesses, Opportunities, and Threats. efficient and electric cars, it offers an opportunity for The first two—strengths and weaknesses—relate new sales. to the internal environment of the firm, primar- The lesson here is that classifying external factors ily its resources and capabilities; the last two— into opportunities and threats, and internal factors into opportunities and threats—relate to the external strengths and weaknesses, is arbitrary. What is impor- environment. tant is to carefully identify the external and internal Which is better, a two-way distinction between internal and external influences or the four-way SWOT forces that impact the firm, and then analyze their implications. taxonomy? The key issue is whether it is sensible and In this book I will follow a simple two-way classi- worthwhile to classify internal factors into strengths fication of internal and external factors and avoid any and weaknesses and external factors into opportu- superficial categorization into strengths or weaknesses, nities and threats. In practice, such distinctions are and opportunities or threats. difficult. Is LeBron James a strength or a weakness for the Cleveland Cavaliers? As one of the NBA’s most accomplished and acclaimed players he is a strength. As a 30-year-old player whose best days are behind him Note: For more on SWOT see: T. Hill and R. Westbrook, “SWOT Analysis: It’s Time For A Product Recall,” Long Range Planning, 30 (February 1997): 46–52; and M. Venzin, “SWOT Analysis: Such a Waste of Time?” (February 2015) http://ideas. sdabocconi.it/strategy/archives/3405. Porter states that “Strategy is the creation of a unique and differentiated position involving a different set of activities.”3 The key is how these activities fit together to form a consistent, mutually reinforcing system. Ryanair’s strategic position is as Europe’s lowest-cost airline providing no-frills flights to budget-conscious travelers. This is achieved by a set of activities which fit together to support that positioning (Figure 1.3). The concept of strategic fit is one component of a set of ideas known as ­contingency theory. Contingency theory postulates that there is no single best way of organizing or managing. The best way to design, manage, and lead an organization depends upon circumstances—in particular the characteristics of that organization’s environment.4 12 Part I introduction Figure 1.3 Ryanair’s activity system Low operating costs High aircraft utilization Boeing 737s only 25-min. turnaround Point-to-point routes High labor productivity No-frills product offering Low prices; separate charging for additional services Single class; no reserved seating No baggage transfer Job f lexibility Direct sales only Internet-only check-in Secondary airports A Brief History of Business Strategy Origins and Military Antecedents Enterprises need business strategies for much the same reason that armies need military strategies—to give direction and purpose, to deploy resources in the most effective manner, and to coordinate the decisions made by different individuals. Many of the concepts and theories of business strategy have their antecedents in military strategy. The term strategy derives from the Greek word strategia, meaning “generalship.” However, the concept of strategy did not originate with the Greeks: Sun Tzu’s classic, The Art of War, from about 500 BC is regarded as the first treatise on strategy.5 Military strategy and business strategy share a number of common concepts and principles, the most basic being the distinction between strategy and tactics. Strategy is the overall plan for deploying resources to establish a favorable position; a tactic is a scheme for a specific action. Whereas tactics are concerned with the maneuvers necessary to win battles, strategy is concerned with winning the war. Strategic decisions, whether in military or business spheres, share three common characteristics: ●● ●● ●● they are important they involve a significant commitment of resources they are not easily reversible. Many of the principles of military strategy have been applied to business situations. These include the relative strengths of offensive and defensive strategies; the merits of outflanking over frontal assault; the roles of graduated responses to aggressive initiatives; the benefits of surprise; and the potential for deception, envelopment, escalation, and attrition.6 At the same time, there are major differences between business competition and military conflict. The objective of war is (usually) to defeat the enemy. The purpose of business rivalry is seldom so aggressive: most business enterprises seek to coexist with their rivals rather than to destroy them. chapter 1 The Concept of Strategy   13 The tendency for the principles of military and business strategy to develop along separate paths indicates the absence of a general theory of strategy. The publication of Von Neumann and Morgenstern’s Theory of Games in 1944 gave rise to the hope that a general theory of competitive behavior would emerge. During the subsequent six decades, game theory has revolutionized the study of competitive interaction, not just in business but in politics, military conflict, and international relations as well. Yet, as we shall see in Chapter 4, game theory has achieved only limited success as a broadly applicable general theory of strategy.7 From Corporate Planning to Strategic Management The evolution of business strategy has been driven more by the practical needs of business than by the development of theory. During the 1950s and 1960s, senior executives experienced increasing difficulty in coordinating decisions and maintaining control in companies that were growing in size and complexity. While new techniques of discounted cash flow analysis allowed more rational choices over individual investment projects, firms lacked systematic approaches to their long-term development. Corporate planning (also known as long-term planning) was developed during the late-1950s to serve this purpose. Macroeconomic forecasts provided the foundation for the new corporate planning. The typical format was a five-year corporate planning document that set goals and objectives, forecasted key economic trends (including market demand, the company’s market share, revenue, costs, and margins), established priorities for different products and business areas of the firm, and allocated capital expenditures. The diffusion of corporate planning was accelerated by a flood of articles and books addressing this new science.8 The new techniques of corporate planning proved particularly useful for guiding the diversification strategies that many large companies pursued during the 1960s.9 By the mid-1960s, most large US and European companies had set up corporate planning departments. Strategy Capsule 1.4 provides an example of this formalized corporate planning. During the 1970s and early 1980s, confidence in corporate planning was severely shaken. Not only did diversification fail to deliver the anticipated synergies but the oil shocks of 1974 and 1979 ushered in a new era of macroeconomic instability, while increased international competition intensified as Japanese, Korean, and Southeast Asian firms stepped onto the world stage. The new turbulence meant that firms could no longer plan their investments and resource requirements three to five years ahead—they couldn’t forecast that far ahead. The result was a shift in emphasis from planning to strategy making, where the focus was less on the detailed management of a company’s growth path as on market selection and competitive positioning in order to maximize the potential for profit. This transition from corporate planning to what became called strategic management involved a focus on competition as the central characteristic of the business environment, and on performance maximization as the primary goal of strategy. This emphasis on strategy as a quest for performance directed attention to the sources of profitability. During the late 1970s and into the 1980s, the focus was upon how a firm’s competitive environment determined its potential for profit. Michael Porter of Harvard Business School pioneered the application of industrial organization economics to analyzing the profit potential of different industries and markets.10 Other studies examined how strategic variables—notably market share—determined how profits were distributed between the different firms in an industry.11 14 Part I introduction STRATEGY CAPSULE 1.4 Corporate Planning in a Large US Steel Company, 1965 The first step in developing long-range plans was to corporation and various district engineers. Alternative forecast the product demand for future years. After plans for achieving company goals were also devel- calculating the tonnage needed in each sales district oped for some areas, and investment proposals were to provide the “target” fraction of the total forecast formulated after considering the amount of available demand, the optimal production level for each area capital and the company debt policy. The vice presi- was determined. A computer program that incor- dent who was responsible for long-range planning porated the projected demand, existing production recommended certain plans to the president and, after capacity, freight costs, etc. was used for this purpose. the top executives and the board of directors reviewed When the optimum production rate in each area was found, the additional facilities needed to produce the desired tonnage were specified. Then the capital costs for the necessary equipment, buildings, and layout were estimated by the chief engineer of the alternative plans, they made the necessary decisions about future activities. Source: H. W. Henry, Long Range Planning Processes in 45 Industrial Companies (Englewood Cliffs, NJ: Prentice-Hall, 1967): 65. During the 1990s, the focus of strategy analysis shifted from the sources of profit in the external environment to the sources of profit within the firm. Increasingly the resources and capabilities of the firm became regarded as the main source of competitive advantage and the primary basis for formulating strategy.12 This emphasis on what has been called the resource-based view of the firm represented a substantial shift in thinking about strategy. While the quest for attractive industries and market leadership encouraged firms to adopt similar strategies, emphasis on internal resources and capabilities has encouraged firms to identify how they are different from their competitors and design strategies that exploit these differences. During the 21st century, new challenges have continued to shape the principles and practice of strategy. Digital technologies have had a massive impact on the competitive dynamics of many industries, creating winner-take-all markets and standards wars.13 Disruptive technologies14 and accelerating rates of change have meant that strategy has become less and less about plans and more about creating options of the future,15 fostering strategic innovation,16 and seeking the “blue oceans” of uncontested market space.17 The complexity of these challenges have meant that being self-sufficient is no longer viable for most firms—alliances and other forms of collaboration are an increasingly common feature of firms’ strategies. The 2008–2009 financial crisis triggered new thinking about the strategy and purpose of business. Disillusion with the excesses and unfairness of market capitalism has renewed interest in corporate social responsibility, ethics, sustainability, and the role of legitimacy in long-term corporate success.18 Figure 1.4 summarizes the main developments in strategic management since the mid-20th century. chapter 1 The Concept of Strategy   15 Figure 1.4 Evolution of strategic management 1960 Corporate Planning: • Corporate plans based on medium-term 1950 Financial Budgeting: • Operational budgeting • DCF capital budgeting economic forecasts 1970 Emergence of Strategic Management: 1980 • Industry analysis and competitive positioning The Quest for Competitive Advantage: 1990 • Emphasis on resources and capabilities • Shareholder value maximization • Refocusing, outsourcing, delayering, cost cutting 2000 Adapting to Turbulence: 2015 • Adapting to and exploiting digital technology • The quest for flexibility and strategic innovation • Strategic alliances • Social and environmental responsibility Strategy Today What Is Strategy? In its broadest sense, strategy is the means by which individuals or organizations achieve their objectives. Table 1.1 presents a number of definitions of the term strategy. Common to most definitions is the notion that strategy is focused on achieving certain goals; that it involves allocating resources; and that it implies some consistency, integration, or cohesiveness of decisions and actions. Yet, as we have seen, the conception of firm strategy has changed greatly over the past half-century. As the business environment has become more unstable and unpredictable, so strategy has become less concerned with detailed plans and more about guidelines for success. This is consistent with the examples that began this chapter. Neither Queen Elizabeth nor Lady Gaga appears to have articulated any explicit strategic plan, but the consistency we discern in their actions suggests both possessed clear ideas of what they wanted to achieve and how they would achieve it. This shift in emphasis from strategy as plan to strategy as direction does not imply any downgrading of the role of strategy. The more turbulent the environment, the more must strategy embrace flexibility and responsiveness. But it is precisely in these conditions that strategy becomes more, rather than less, important. When the firm is buffeted by unforeseen threats and where new opportunities are constantly 16 Part I introduction Table 1.1 Some definitions of strategy ●● Strategy: a plan, method, or series of actions designed to achieve a specific goal or effect. —Wordsmyth Dictionary (http://www.wordsmyth.net) ●● T he determination of the long-run goals and objectives of an enterprise, and the adoption of courses of action and the allocation of resources necessary for carrying out these goals. —Alfred Chandler, Strategy and Structure (Cambridge, MA: MIT Press, 1962) ●● Strategy: “a cohesive response to an important challenge.” —Richard Rumelt, Good Strategy/Bad Strategy (New York: Crown Business, 2011): 6. ●● Lost Boy:     John Darling:   Lost Boy:     John Darling:    “Injuns! Let’s go get ‘em!” “Hold on a minute. First we must have a strategy.” “Uhh? What’s a strategy?” “It’s, er . . . it’s a plan of attack.” —Walt Disney’s Peter Pan appearing, then strategy becomes the compass that can navigate the firm through stormy seas. Why Do Firms Need Strategy? This transition from strategy as plan to strategy as direction raises the question of why firms (or any type of organization) need strategy. Strategy assists the effective management of organizations, first, by enhancing the quality of decision making, second, by facilitating coordination, and, third, by focusing organizations on the pursuit of long-term goals. Strategy as Decision Support Strategy is a pattern or theme that gives coherence to the decisions of an individual or organization. But why can’t individuals or organizations make optimal decisions in the absence of such a unifying theme? Consider the 1997 “man versus machine” chess epic in which Garry Kasparov was defeated by IBM’s “Deep Blue” computer. Deep Blue did not need strategy. Its phenomenal memory and computing power allowed it to identify its optimal moves based on a huge decision tree.19 Kasparov—although the world’s greatest chess player—was subject to bounded rationality: his decision analysis was subject to the cognitive limitations that constrain all human beings.20 For him, a strategy offered guidance that assisted positioning and helped create opportunities. Strategy improves decision making in several ways: ●● ●● ●● It simplifies decision making by constraining the range of decision alternatives considered and acts as a heuristic—a rule of thumb that reduces the search required to find an acceptable solution to a decision problem. The strategy-making process permits the knowledge of different individuals to be pooled and integrated. It facilitates the use of analytic tools—the frameworks and techniques that we will encounter in the ensuing chapters of this book. chapter 1 The Concept of Strategy   17 Strategy as a Coordinating Device The central challenge of management is coordinating the actions of different organizational members. Strategy acts as a communication device to promote coordination. Statements of strategy are a means by which the CEO can communicate the identity, goals, and positioning of the company to all organizational members. The strategic planning process acts as a forum in which views are exchanged and consensus developed; once formulated, strategy can be translated into goals, commitments, and performance targets that ensure that the organization moves forward in a consistent direction. Strategy as Target Strategy is forward looking. It is concerned not only with how the firm will compete now but also with what the firm will become in the future. A key purpose of a forward-looking strategy is not only to establish a direction for the firm’s development but also to set aspirations that can motivate and inspire members of the organization. Gary Hamel and C. K. Prahalad use the term strategic intent to describe this desired strategic position: “strategic intent creates an extreme misfit between resources and ambitions. Top management then challenges the organization to close the gap by building new competitive advantages.”21 The implication is that strategy should be less about fit and resource allocation and more about stretch and resource leverage.22 Jim Collins and Jerry Porras make a similar point: US companies that have been sector leaders for 50 years or more—Merck, Walt Disney, 3M, IBM, and Ford—have all generated commitment and drive through setting “Big, Hairy, Ambitious Goals.”23 Striving, inspirational goals are found in most organizations’ statements of vision and mission. One of the best known is that set by President Kennedy for NASA’s space program: “before this decade is out, to land a man on the moon and return him safely to Earth.” However, Richard Rumelt warns us not to confuse strategy with goal setting: “Strategy cannot be a useful … tool if it is confused with ambition, determination, inspirational leadership, and innovation … strategy should mean a cohesive response to an important challenge.”24 Where Do We Find Strategy? A company’s strategy can be found in three places: in the heads of managers, in their articulations of strategy in speeches and written documents, and in the decisions through which strategy is enacted. Only the last two are observable. Strategy has its origins in the thought processes of entrepreneurs and senior managers. For the entrepreneur the starting point of strategy is the idea for a new business. In most small companies, strategy remains in the heads of business proprietors: there is little need for any explicit statement of strategy. For large companies statements of strategy are found in board minutes and strategic planning documents, which are invariably confidential. However, most companies—public companies in particular—see value in communicating their strategy to employees, customers, investors, and business partners. Collis and Rukstad identify four types of statement through which companies communicate their strategies: ●● ●● The mission statement describes organizational purpose; it addresses “Why we exist.” A statement of principles or values outlines “What we believe in and how we will behave.” 18 Part I introduction ●● ●● The vision statement projects “What we want to be.” The strategy statement articulates the company’s competitive game plan, which typically describe objectives, business scope, and advantage.25 These statements can be found on the corporate pages of companies’ websites. More detailed statements of strategy—including qualitative and quantitative mediumterm targets—are often found in top management presentations to analysts, which are typically included in the “for investors” pages of company websites. Further information on a firm’s business scope (products and its markets) and how it competes within these markets can be found in a company’s annual reports. For US corporations, the description of the business that forms Item 1 of the 10-K annual report to the Securities and Exchange Commission (SEC) is particularly informative about strategy. Strategy Capsule 1.5 provides statements of strategy by McDonald’s, the global fast-food giant, and Twitter, the online messaging service. Ultimately, strategy becomes enacted in the decisions and actions of an organization’s members. Indeed, checking strategy statements against decisions and actions may reveal a gap between rhetoric and reality. As a reality check upon grandiose and platitudinous sentiments of vision and mission, it is useful to ask: ●● ●● ●● Where is the company investing its money? Notes to financial statements provide detailed breakdowns of capital expenditure by region and by business segment. What technologies is the company developing? Identifying the patents that a company has filed (using the online databases of the US and EU patent offices) indicates the technological trajectory it is pursuing. What new products have been released, major investment projects initiated, and top management hired? These strategic decisions are typically announced in press releases and reported in trade journals. To identify a firm’s strategy it is necessary to draw upon multiple sources of information in order to build an overall picture of what the company says it is doing and what it is actually doing. We will return to this topic when we discuss competitive intelligence in Chapter 4. Corporate and Business Strategy Strategic choices can be distilled into two basic questions: ●● ●● Where to compete? How to compete? The answers to these questions define the two major areas of a firm’s strategy: corporate strategy and business strategy. Corporate strategy defines the scope of the firm in terms of the industries and markets in which it competes. Corporate strategy decisions include choices over diversification, vertical integration, acquisitions, and new ventures, and the allocation of resources between the different businesses of the firm. chapter 1 The Concept of Strategy   19 STRATEGY CAPSULE 1.5 Statements of Company Strategy: McDonald’s and Twitter McDonald’s Corporation Twitter, Inc. Our goal is to become customers’ favorite place We have aligned our growth strategy around and way to eat and drink by serving core favor- the three primary constituents of our platform: ites such as our World Famous Fries, Big Mac, Users. We believe that there is a significant Quarter Pounder and Chicken McNuggets. opportunity to expand our user base… The strength of the alignment among the Company, its franchisees and suppliers (col- ◆◆ broad set of partnerships globally to increase lectively referred to as the “System”) has been relevant local content … and make Twitter key to McDonald’s success. By leveraging our more accessible in new and emerging markets. System, we are able to identify, implement and scale ideas that meet customers’ changing ◆◆ Mobile Applications. We plan to continue to develop and improve our mobile applications… needs and preferences. McDonald’s customer-focused Plan to Win Geographic Expansion. We plan to develop a ◆◆ Product Development. We plan to continue to (“Plan”) provides a common framework that build and acquire new technologies to develop aligns our global business and allows for local and improve our products and services… adaptation. We continue to focus on our three global growth priorities of optimizing our menu, modernizing the customer experience, and broadening accessibility to Brand McDonald’s within the framework of our Plan. Our initiatives Platform Partners. We believe growth in our platform partners is complementary to our user growth strategy… ◆◆ Expand the Twitter Platform to Integrate More support these priorities, and are executed with a Content. We plan to continue to build and focus on the Plan’s five pillars—People, Products, acquire new technologies to enable our plat- Place, Price and Promotion—to enhance our form partners to distribute content of all forms. customers’ experience and build shareholder ◆◆ value over the long term. We believe these priorities align with our customers’ evolving needs, and—combined with our competitive advantages of convenience, menu variety, geographic diversification and System alignment—will drive long-term sustainable growth. Partner with Traditional Media … to drive more content distribution on our platform … Advertisers … [I]ncrease the value of our platform for our advertisers by enhancing our advertising services and making our platform more accessible. ◆◆ Targeting. We plan to continue to improve the targeting capabilities of our advertising services. Source: www.mcdonalds.com. ◆◆ Opening our Platform to Additional Advertisers. We believe that advertisers outside of the United States represent a substantial opportunity … ◆◆ New Advertising Formats. Source: Twitter, Inc. Amendment no. 4 to Form S-1, Registration Statement, SEC, November 4, 2013. 20 Part I introduction Business strategy is concerned with how the firm competes within a particular industry or market. If the firm is to prosper within an industry, it must establish a competitive advantage over its rivals. Hence, this area of strategy is also referred to as competitive strategy. The distinction between corporate strategy and business strategy corresponds to the organizational structure of most large companies. Corporate strategy is the responsibility of corporate top management. Business strategy is primarily the responsibility of the senior managers of divisions and subsidiaries. This distinction between corporate and business strategy also corresponds to the primary sources of superior profit for a firm. As we have noted, the purpose of strategy is to achieve superior performance. Basic to this is the need to survive and prosper, which in turn requires that over the long term the firm earn a rate of return on its capital that exceeds its cost of capital. There are two possible ways of achieving this. First, by choosing to locate within industries where overall rates of return are attractive (corporate strategy). Second, by attaining a position of advantage visà-vis competitors within an industry, allowing it to earn a return that exceeds the industry average (Figure 1.5). This distinction may be expressed in even simpler terms. The basic question facing the firm is “How do we make money?” The answer to this question corresponds to the two basic strategic choices we identified above: “Where to compete?” (“In which industries and markets should we be?”) and “How to compete?” As an integrated approach to firm strategy, this book deals with both business and corporate strategy. However, my primary emphasis will be on business strategy. This is because the critical requirement for a company’s success is its ability to establish competitive advantage. Hence, issues of business strategy precede those of corporate strategy. At the same time, these two dimensions of strategy are intertwined: the scope of a firm’s business has implications for the sources of competitive advantage, and the nature of a firm’s competitive advantage determines the industries and markets it can be successful in. Figure 1.5 The sources of superior profitability INDUSTRY ATTRACTIVENESS CORPORATE STRATEGY RATE OF PROFIT ABOVE THE COST OF CAPITAL How do we make money? Where to compete? COMPETITIVE ADVANTAGE How to compete? BUSINESS STRATEGY chapter 1 The Concept of Strategy   21 Figure 1.6 the future Describing firm strategy: Competing in the present, preparing for Strategy as Positioning • Where are we competing? -Product market scope -Geographical scope -Vertical scope • How are we competing? -What is the basis of our competitive advantage? COMPETING FOR THE PRESENT Strategy as Direction • What do we want to become? -Vision statement • What do we want to achieve? -Mission statement -Performance goals • How will we get there? -Guidelines for development -Priorities for capital expenditure, R&D -Growth modes: organic growth, M & A, alliances PREPARING FOR THE FUTURE Describing Strategy These same two questions—“Where is the firm competing?” and “How is it competing?”—also provide the basis upon which we can describe the strategy that a firm is pursuing. The where question has multiple dimensions. It relates to the products the firm supplies, the customers it serves, the countries and localities where it operates, and the vertical range of activities it undertakes. However, strategy is not simply about “competing for today”; it is also concerned with “competing for tomorrow.” This dynamic aspect of strategy involves establishing objectives for the future and determining how they will be achieved. Future objectives relate to the overall purpose of the firm (mission), what it seeks to become (vision), and how it will meet specific performance targets. These two dimensions of strategy—the static and the dynamic—are depicted in Figure 1.6 and are illustrated by the Coca-Cola Company. As we shall see in Chapter 8, reconciling these two dimensions of strategy—what Derek Abell calls “competing with dual strategies”—is one of the central dilemmas of strategic management.26 How Is Strategy Made? The Strategy Process How companies make strategy and how they should make strategy are among the most hotly debated issues in strategic management. The corporate planning undertaken by large companies during the 1960s was a highly formalized approach to strategy making. Strategy may also be made informally: emerging through adaptation to circumstances. In our opening discussion of Queen Elizabeth and Lady Gaga, I discerned a consistency and pattern to their career decisions that I identified as strategy, even though there is no evidence that either of them engaged in any systematic process of strategy formulation. Similarly, most successful companies are not products of grand designs. The rise of Apple Inc. to become the world’s most 22 Part I introduction valuable company (in terms of stock market capitalization) has often been attributed to a brilliant strategy of integrating hardware, software, and aesthetics to create consumer electronic products that offered a unique consumer experience. Yet, there is little evidence that Apple’s incredible success since 2004 was the result of any grand design. Dick Rumelt reports when Steve Jobs was reappointed as Apple’s CEO in 1997, his first actions were to cut costs, slash investment spending, and p…

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