DQ

No credit for any DQ’s  subjects covered during class or in the PPT.

You are to use eitherthe class reading assignment or current events BUT they need to address Strategy issues. The purpose is to drive conversations, which we will use in breakout sessions.

 Example of a good DQ’s:

The makeup/cosmetic industry is an example of ‘oligopolistic’ competition, mainly because of huge M&A’s by dominant firms such as Shiseido, Estee Lauder, and L’Oreal, (over 180 brands are owned by 7 companies). Although M&A’s can help reduce the C in V-C economic value creation, sometimes M&A’s can also reduce shareholder value creation due to the notorious reputation of these dominant firms. For example, Estee Lauder is notorious for the chemicals they put into their makeup, which turns many consumers away from their brand. However, sometimes these customers find that alternative brands are acquired by Estee Lauder, which conflicts with certain brand strategies, missions, visions, and core values. Nars used to be a vegan-friendly brand until it was acquired by Shiseido and many consumers have stopped using Nars as a result. How can brands address this issue of conflicting missions, visions, and core values during M&A’s? During the past summer I worked as an intern in the accounting department of a commercial real estate firm. The last day of my internship, my manager conducted a Exit Interview with me. During the interview, he asked me if there were any employees in the office that were “not working as hard as they should”. At the time, I was put off by this question and I did not answer it because I didn’t want to throw anyone under the bus. Is this a normal question that managers ask their employees?  

Chapter 3

External Analysis: Industry Structure, Competitive Forces, and Strategic Groups

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No reproduction or further distribution permitted without the prior written consent of McGraw Hill.

Because learning changes everything.®

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Learning Objectives

Generate a PESTEL analysis to evaluate the impact of external factors on the firm.

Apply Porter’s five competitive forces to explain the profit potential of different industries.

Examine how competitive industry structure shapes rivalry among competitors.

Describe the strategic role of complements in creating positive-sum co-opetition.

Explain the five choices required for market entry.

Generate a strategic group model to reveal performance differences between clusters of firms in the same industry.

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AFI Framework review

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MACRO
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Broad to granular
General environment:
Managers have little control.
Macroeconomic factors are included…Examples: interest, exchange rates, etc.
Task environment:
Managers can influence.
Includes the composition of strategic groups and the structure of the industry.

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EXTERNAL ANALYSIS

INDUSTRY ANALYSIS

Five Forces Model

COMPETITOR ANALYSIS

Strategic Group Mapping

PESTEL Framework

The Firm within Its External Environment, (PESTEL Framework)
PESTEL ======>

© McGraw Hill
Why is it important for an organization to study and understand its external environment? It is important because it can affect the industry and firm’s performance.
The PESTEL framework, for instance, is helpful because it acts as a guide, allowing managers to mitigate threats and leverage opportunities accordingly.
The Firm within Its External Environment, Industry, and Strategic Group.
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Key Concepts of PESTEL
Managers mitigate threats and exploit opportunities by analyzing the external environmental forces.
Factors are interdependent.
Framework to scan, monitor, and evaluate important external factors/trends impacting a firm in its quest for competitive advantage.
Results are used in SWOT analysis

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Political Factors
Processes and actions of government bodies that influence the firm can be shaped through:
Lobbying.
Public Relations.
Contributions.
Litigation.
Political and legal forces are closely related.
Political pressure often results in changes in legislation.

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For example, hotel chains and resort owners have challenged Airbnb in courts and lobbied local governments, some of which passed regulations to limit or prohibit short-term rentals. Local residents in New York, San Francisco, Berlin, Paris, and many other cities are also pressuring local governments to enact more aggressive rules banning short-term rentals because they argue that companies such as Airbnb contribute to a shortage of affordable housing by turning entire apartment complexes into hotels or transforming quiet family neighborhoods into all-night, every-night party hot spots.
How will the current Administration impact this industry?
Relative to the chapter opener on Tesla the text notes the benefits of the U.S. government offering $7,500 in federal tax credits to consumers purchasing a new all electric vehicle. Some states also have such incentives. Other countries including China and several in the EU also offer such incentives.
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Economic Factors
Largely macroeconomic.
Affect economy-wide phenomena.
Examples include:
Growth rates.
Levels of employment.
Interest rates.
Price stability.
Currency exchange rates.

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Occasionally, boom periods can overheat and lead to speculative asset bubbles. In the early 2000s, the United States experienced an asset bubble in real estate. Easy credit, made possible by the availability of subprime mortgages and other financial innovations, fueled an unprecedented demand in housing. Real estate, rather than stocks, became the investment vehicle of choice for many Americans, propelled by the common belief that house prices could only go up. When the housing bubble burst, the deep economic recession of 2008–2009 began, impacting in some way nearly all businesses in the United States and worldwide.
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Sociocultural Factors
Society’s cultures, norms, and values:
Are constantly in flux.
Differ across groups.
Trends should be monitored.
Demographic trends:
Population characteristics.
Age, gender, family size, ethnicity, sexual orientation, religion, and socioeconomic class.

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In recent years, for example, a growing number of U.S. consumers have become more health-conscious about what they eat. This trend led to a boom for businesses such as Chipotle, Subway, and Whole Foods. At the same time, traditional fast-food companies McDonald’s and Burger King, along with grocery chains such as Albertsons and Kroger, have all had to scramble to provide healthier choices in their product offerings.
The most recent U.S. census revealed that 55 million Americans (16.4 percent of the total population) are Hispanic. It is now the largest ethnic group in the United States and growing fast. On average, Hispanics are also younger and their incomes are climbing quickly. This trend is not lost on companies trying to benefit from this opportunity. For example, MundoFox and ESPN Deportes (specializing in soccer) have joined Univision and NBC’s Telemundo in the Spanish-language television market. In the United States, Univision is now the fifth most popular network overall, just behind the four major English-language networks (ABC, NBC, CBS, and Fox). Likewise, advertisers are pouring dollars into the Spanish-language networks to promote their products and services.
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Technological Factors
Application of knowledge:
New processes and products.
Innovations in process technology:
Lean manufacturing, Six Sigma quality and biotechnology.
Innovations in product technology:
Smartphones, wearable devices, all-electric cars.
Advances in artificial intelligence and machine learning.

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As discussed in the Chapter Case, Airbnb launched a radical process innovation of offering and renting rooms based on a business model leveraging the sharing economy. If one thing seems certain, technological progress is relentless and seems to be picking up speed.
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Ecological Factors
Broad environmental issues:
Natural environment.
Global warming.
Sustainable economic growth.

The relationship between organizations and the environment can be:
Adversarial.
Can provide business opportunities.

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Unfortunately many business organizations have contributed to the pollution of air, water, and land, as well as depletion of the world’s natural resources. BP’s infamous oil spill in the Gulf of Mexico destroyed fauna and flora along the U.S. shoreline from Texas to Florida. This disaster led to a decrease in fish and wildlife populations, triggered a decline in the fishery and tourism industries, and threatened the livelihood of thousands of people.
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Legal Factors
Official outcomes of political processes:
Laws.
Mandates.
Regulations.
Court decisions.
Many industries have been deregulated.
Airlines, telecom, energy, and trucking.
Legal factors often coexist with or result from political will.

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Consider how several European countries and the European Union (EU) apply political and legal pressure on U.S. tech companies. European targets include Apple, Amazon, Facebook, Google, and Microsoft—the five largest U.S. tech companies—but also startups such as Uber, the taxi-hailing mobile app. Europe’s policy makers seek to retain control over important industries ranging from transportation to the internet to ensure that profits earned in Europe by Silicon Valley firms are taxed locally. The EU parliament even proposed legislation to break up “digital monopolies” such as Google. This proposal would require Google to offer search services independently as a standalone company from its other online services.
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Exercise: US Automotive Industry & PESTEL
You will be divided into 6 groups. Each group will take on a factor for discussion.
How does PESTEL impact the US automakers as a whole?
Political
Economic
Sociocultural
Technological
Ecological
Legal

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Use Word doc for answers. Pestel analysis auto industry
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EXTERNAL ANALYSIS

INDUSTRY ANALYSIS

Five Forces Model

COMPETITOR ANALYSIS

Strategic Group Mapping

PESTEL Framework

Industry and Industry Analysis
Industry:
Group of incumbent companies.
Relatively similar suppliers and buyers.
Similar products and services.

Industry analysis, a method to:
Identify an industry’s profit potential.
Derive implications for a firm’s strategic position.

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Industry vs. Firm Effects
Industry Effects:
Describe the economic structure of the industry.
Elements in common to all.
Entry and exit barriers, number and size of companies, and types of products and services offered.

Firm Effects:
Attribute firm performance to the manager’s actions.
More important than industry effects.

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Industry Analysis and
The Five Forces Model

Michael Porter
A framework for identifying the five forces that determine industry profit potential and help shape firm competitive strategy
Two key insights about this model:
Competition is viewed more broadly in the five forces model.
Profit potential is a function of the five competitive forces.

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4 Minute cartoon https://hbr.org/video/3590615226001/the-explainer-porters-five-forces
The five forces model is one of the most widely used tools in strategy. It is worth spending some time on it.
Michael Porter wrote his original work on the subject over 30 years ago. However, he updated this work in 2008 and you may want to
review his article in HBR for more details on the model. (Porter, M. E. (2008), “The five competitive forces that shape strategy.”)

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Porter’s Five Forces Model
The stronger the five forces, the lower the industry’s profit potential—making the industry less attractive for competitors.

The reverse is also true: the weaker the five forces, the greater the industry’s profit potential—making the industry more attractive.

© McGraw Hill
Porter derived two key insights that form the basis of his seminal five forces model:
1. Rather than defining competition narrowly as the firm’s closest competitors to explain and predict a firm’s performance, competition must be viewed more broadly, to also encompass the other forces in an industry: buyers, suppliers, potential new entry of other firms, and the threat of substitutes.
2. The profit potential of an industry is neither random nor entirely determined by industry-specific factors. Rather, it is a function of the five forces that shape competition: threat of entry, power of suppliers, power of buyers, threat of substitutes, and rivalry among existing firms.
As a rule of thumb, the stronger the five forces, the lower the industry’s profit potential—making the industry less attractive for competitors. The reverse is also true: the weaker the five forces, the greater the industry’s profit potential—making the industry more attractive.
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Threat of Entry
The risk that potential competitors will enter an industry:
Lowers industry profit potential.
Increases spending among incumbent firms.

Entry barriers:
Economies of scale.
Incumbent advantages.
Customer switching costs.
Capital requirements.
Government policy.
Credible threat of retaliation by incumbents.

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The threat of entry is high when:
✓The minimum efficient scale to compete in an industry is low.
✓Customer switching costs are low.
✓Capital requirements are low.
✓Incumbents do not possess:
Brand loyalty.
Proprietary technology.
Preferential access to raw materials.
Preferential access to distribution channels.
Favorable geographic locations.
Cumulative learning and experience effects.
✓Restrictive government regulations do not exist.
✓New entrants expect that incumbents will not or cannot retaliate.
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Power of Suppliers
Pressures that industry suppliers can exert on an industry’s profit potential.
Suppliers demand higher prices for their inputs.
Suppliers capture part of the economic value created.

Supplier threats:
Supplier’s industry concentration.
Suppliers relation to industry vs. revenues.
Incumbent firms switching costs to change suppliers.
Suppliers offer products that are differentiated.
There are no readily available substitutes.
Suppliers can forward-integrate into the industry.

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The power of suppliers is high when:
✓Supplier’s industry is more concentrated than the industry it sells to.
✓Suppliers do not depend heavily on the industry for their revenues.
✓Incumbent firms face significant switching costs when changing suppliers.
✓Suppliers offer products that are differentiated.
✓There are no readily available substitutes for the products or services that the suppliers offer.
✓Suppliers can credibly threaten to forward-integrate into the industry.
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Power of Buyers, (Customers)
Lowers industry profit potential if:
Buyers obtain price discounts, which reduces revenue.
Buyers demand higher quality / service, which raises production costs.

Buyer threats:
There are a few buyers and each buyer purchases large quantities relative to the size of a single seller.
The industry’s products are standardized/undifferentiated commodities.
Buyers face low or no switching costs.
Buyers can backward integrate into the industry.

© McGraw Hill
The power of buyers is high when:
✓There are a few buyers and each buyer purchases large quantities relative to the size of a single seller.
✓The industry’s products are standardized or undifferentiated commodities. (airfares)
✓Buyers face low or no switching costs. (Wireless providers)
✓Buyers can credibly threaten to backwardly integrate into the industry.
The retail giant Walmart provides perhaps the most potent example of tremendous buyer power. Walmart is not only the largest retailer worldwide (with over 12,000 stores and 2 million employees), but it is also one of the largest companies in the world (with $530 billion in revenues in 2019). Walmart is one of the few large big-box global retail chains and frequently purchases large quantities from its suppliers. Walmart leverages its buyer power by exerting tremendous pressure on its suppliers to lower prices and to increase quality or risk losing access to shelf space at the largest retailer in the world. Walmart’s buyer power is so strong that many suppliers co-locate offices directly next to Walmart’s headquarters in Bentonville, Arkansas, because such proximity enables Walmart’s managers to test the supplier’s latest products and negotiate prices.
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Threat of Substitutes
Meet the same basic customer need:
In a different way.
Available from outside the given industry.

Substitutes work if:
The substitute offers an attractive price-performance trade-off.
The buyer’s cost of switching to the substitute is low.

© McGraw Hill
The threat of substitutes is high when:
✓The substitute offers an attractive price-performance trade-off.
✓The buyer’s cost of switching to the substitute is low.
Examples: many software products are substitutes to professional services, at least at the lower end. Tax preparation software such as Intuit’s TurboTax is a substitute for professional services offered by H&R Block and others. LegalZoom, an online legal documentation service, is a threat to professional law firms. Other examples of substitutes are energy drinks versus coffee, videoconferencing versus business travel, e-mail versus express mail, gasoline versus biofuel, and wireless telephone services versus Voice over Internet Protocol (VoIP), offered by Skype or Vonage.
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Rivalry Among Competitors
The intensity of companies in the same industry jockey for market share and profitability.
Can range from genteel to cut-throat.
The other forces in the model pressure this rivalry.
The stronger the forces, the stronger the competitive intensity.

Buyer threats:
There are many competitors in the industry.
Competitors are roughly of equal size.
Industry growth is poor
Exit barriers are high.
Products and services are direct substitutes.
Excess capacity exists in the industry.
The product or service is perishable.

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The rivalry among existing competitors is high when:
✓There are many competitors in the industry. (Soda)
✓The competitors are roughly of equal size.
✓Industry growth is slow, zero, or even negative. (Wireless carriers)
✓Exit barriers are high.
✓Incumbent firms are highly committed to the business.
✓Incumbent firms cannot read or understand each other’s strategies well.
✓Products and services are direct substitutes.
✓Fixed costs are high and marginal costs are low.
✓Excess capacity exists in the industry.
✓The product or service is perishable.
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Industry Growth
Affects intensity of rivalry among competitors.
During periods of high growth:
Consumer demand rises.
Price competition among firms decreases.
During periods of negative growth:
Rivalry is fierce.
Rivals can only gain at the expense of one another.
Price discounts, promotional campaigns, and retaliation abound.

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Competitive Industry Structure is Defined By
Number and size of competitors.
Firm’s degree of pricing power.

Type of product or service
(commodity or differentiated product).
Height of entry barriers.

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Competitive Industry Structures

Jump to Appendix 5 long image description

© McGraw Hill
Perfect – When there are many small firms offering a commodity product in an industry that is easy to enter, no one is able to increase prices and generate profits.
Monopolistic competition: The computer hardware industry provides one example of monopolistic competition. Many firms compete in this industry, and even the largest of them (Apple, ASUS, Dell, HP, or Lenovo) have less than 20 percent market share. Moreover, while products between competitors tend to be similar, they are by no means identical.
Oligopoly: The express-delivery industry is an example of an oligopoly. The main competitors in this space are FedEx and UPS. Any strategic decision made by FedEx (e.g., to expand delivery services to ground delivery of larger-size packages) directly affects UPS; likewise, any decision made by UPS (e.g., to guarantee next-day delivery before 8:00 a.m.) directly affects FedEx. Other examples of oligopolies include the soft drink industry (Coca-Cola vs, Pepsi), airframe manufacturing business (Boeing vs. Airbus), home-improvement retailing (The Home Depot vs. Lowe’s), toys and games (Hasbro vs. Mattel), and detergents (P&G vs. Unilever). When there are only two main competitors, it’s called a duopoly and is a special case of oligopoly.
Monopoly: Utilities or Satellite radio…the only supplier..

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Exit Barriers
Obstacles that determine how easily a firm can leave that industry.
Mainly economic and social factors.
Include fixed costs that must be paid.

Examples: employee health care and retirement benefits.

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In Michigan, entire communities still depend on GM, Ford, and Chrysler. If any of those carmakers were to exit the industry, communities would suffer. Other social and economic factors include ripple effects through the supply chain. When one major player in an industry shuts down, its suppliers are adversely impacted as well.
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A Sixth Force: Complements
A product, service, or competency that adds value when used with the original product.
Complements increase demand for the primary product, (whereas substitutes decrease value)
Enhances the profit potential for the industry and the firm.

© McGraw Hill
Think of something that you can use, but it a better experience with the complement.
Hotel, rental cars and airlines…A good example of what a complement is would be the Halo game franchise and the effect it has had on driving increased sales in the video game console industry, in this case helping Microsoft Xbox at the expense of its rivals, but still increasing the total industry sales.
You also need an example of what complements are NOT. Students often think that if products “go together” then they must be complements … not so. Gasoline is not a complement to the car industry. When you purchase a gallon of gasoline it does not make you want to go out an buy an extra car to go with it. A gas station is a complement. Same with Ink and Printer, needed together, but cannot operate alone so not a complement.
Co-opetition: cooperation among competitors to achieve a strategic objective
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Industry Dynamics
Provides insight about:
Changing speed of an industry
Rate of innovation
Analysis must repeat over time
Industry structures aren’t stable
They are dynamic

© McGraw Hill
The U.S. domestic airline industry has witnessed several large, horizontal mergers between competitors, including Delta and Northwest, United and Continental, Southwest and AirTran, as well as American and U.S. Airways. These moves allow the remaining carriers to enjoy a more benign industry structure. It also allows them to retire some of the excess capacity in the industry as the merged airlines consolidate their networks of routes. The merger activity in the airline industry provides one example of how firms can proactively reshape industry structure in their favor. A more consolidated airline industry is likely to lead to higher ticket prices and fewer choices for customers, but also more profitable airlines.
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Industry Convergence
When unrelated industries satisfy the same need
Caused by technological advances
Disruption
Example: Media Industries with content going online vs. newspapers, magazines, TV, movies, radio, music)

Will print media become obsolete?

© McGraw Hill
Internet companies such as Google, Facebook, Instagram (acquired by Facebook), LinkedIn (acquired by Microsoft), Snap, Pinterest, and Twitter are changing the industry structure by constantly morphing their capabilities and forcing old-line media companies such as News Corp., Time Warner, and Disney to adapt. A wide variety of mobile devices, including smartphones, tablets, and e-readers, provide a new form of content delivery that has the potential to make print media obsolete.
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Five Forces in the Airline Industry
Low Entry Barriers
Powerful Suppliers
Powerful Buyers
Strong Substitute Threat
Intense Rivalry
Good or bad profit potential?
Low overall industry profit potential, thus an “unattractive” industry for investment.

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Strategic group map helps to find performance differences within the focal industry.
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EXTERNAL ANALYSIS

INDUSTRY ANALYSIS

Five Forces Model

COMPETITOR ANALYSIS

Strategic Group Mapping

PESTEL Framework

Strategic Groups defined
A set of companies…
pursuing a similar strategy…
in the same industry

© McGraw Hill
Strategic groups differ from one another along important dimensions such as expenditures on research and development, technology, product differentiation, product and service offerings, market segments, distribution channels, and customer service. 
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Strategic Group Model Framework
Clusters different firms into groups.
Is based on key strategic dimensions such as:
All about identifying your competitors…and what if any competitive advantages they hold over your firm.

© McGraw Hill
Strategic groups differ from one another along important dimensions such as expenditures on research and development, technology, product differentiation, product and service offerings, market segments, distribution channels, and customer service. 
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How to Create a Strategic Group Model
1. Identify the important strategic dimensions.
Examples: expenditures on research and development, technology, product differentiation, product and service offerings, pricing, market segments, distribution channels, and customer service.
2. Choose two key dimensions for horizontal and vertical axis.
3. Graph the firms in the strategic group.
Each firm’s market share indicated by the size of the bubble.
All about identifying your competitors…and what if any competitive advantages they hold over your firm.

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Strategic Groups and Mobility Barrier in U.S. Domestic Airline Industry
Exhibit 3.8
Jump to Appendix 3.6 long image description

© McGraw Hill
The two strategic dimensions on the axes are prices and routes. As a result of this mapping, two strategic groups become apparent, as indicated by the dashed lines: Group A, low-cost, point-to-point airlines (Virgin Atlantic, Alaska Airlines, JetBlue, and Southwest Airlines) and Group B, differentiated airlines using a hub-and-spoke system (American, Delta, and United). The low-cost, point-to-point airlines are clustered in the lower-left corner because they tend to offer lower ticket prices but generally serve fewer routes due to their point-to-point operating system.
The differentiated airlines in Group B, offering full services using a hub-and-spoke route system, are clustered in the upper-right corner because their frequently higher ticket prices reflect frequently higher cost structures. They usually offer many more routes than the point-to-point low-cost carriers, made possible by use of the hub-and-spoke system, and thus offer many different destinations.
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Insights from Strategic Group Mapping
Competitive rivalry is strongest between firms in the same strategic group. (duh!)
External environment affects strategic groups differently, (Fuel costs on hub/spoke vs. P2P carriers).
Five competitive forces affect strategic groups differently. (which carrier has advantage during economic downturns?)

Some strategic groups more profitable than others. (better profits with hub/spoke or point-to-point?)

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Mobility Barriers
Restrict movement between strategic groups.
Industry-specific factors that separate one group from another.
Based on hard-to-reverse investments (strategic commitments).
What prevents Southwest Airlines from becoming a global carrier?

© McGraw Hill
The two groups identified in Exhibit 3.8 are separated by the fact that offering international routes necessitates the hub-and-spoke model. Frequently, the international routes tend to be the remaining profitable routes left for the legacy carriers; albeit the up-and-coming Persian Gulf region carriers, in particular Emirates, Etihad Airways, and Qatar Airways, are beginning to threaten this profit sanctuary.
If carriers in the lower-left cluster, such as SWA or JetBlue, would like to compete globally, they would likely need to change their point-to-point operating model to a hub-and-spoke model. Or they could select a few profitable international routes and service them with long-range aircrafts such as Boeing 787s or Airbus A-380s. Adding international service to the low-cost model, however, would require managerial commitments resulting in significant capital investments and a likely departure from a well-functioning business model. Additional regulatory hurdles reinforce these mobility barriers, such as the difficulty of securing landing slots at international airports around the world.
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Practice creating Strategic Maps
Beverages, (Soft drinks, Energy drinks, Water)
Alcoholic beverages, (Beer, Whiskey, Wine)
Watches
Automobiles
Athletic Shoes

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© McGraw Hill
Divide the students into Breakouts and assign them to an industry.
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End of Main Content
© 2021 McGraw Hill. All rights reserved. Authorized only for instructor use in the classroom.
No reproduction or further distribution permitted without the prior written consent of McGraw Hill.

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Refresher on Strategic Positioning and Value Creation
A firm’s ability to create value for customers (V), while containing costs (C).

The goal is to generate a large gap between:
The value the firm’s product or service creates.
The cost required to produce it.
V minus C.

© McGraw Hill

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Chapter 4

Internal Analysis: Resources, Capabilities, and Core Competencies

© 2021 McGraw Hill. All rights reserved. Authorized only for instructor use in the classroom.

No reproduction or further distribution permitted without the prior written consent of McGraw Hill.

Because learning changes everything.®

The AFI Strategy Framework

Access the text alternative for slide images.

© McGraw Hill
Learning Objectives
Differentiate among a firm’s core competencies, resources, capabilities, and activities.
Compare and contrast tangible and intangible resources.
Evaluate the two critical assumptions about the nature of resources in the resource-based view.
Apply the VRIO framework to assess the competitive implications of a firm’s resources.
Evaluate different conditions that allow a firm to sustain a competitive advantage.
Outline how dynamic capabilities can enable a firm to sustain a competitive advantage.
Apply a value chain analysis to understand which of the firm’s activities in the process of transforming inputs into outputs generate differentiation and which drive costs.
Conduct a SWOT analysis to generate insights from external and internal analysis and derive strategic implications.

© McGraw Hill
Shifting from External to Internal Analysis of a Firm
To formulate a strategy that leads to a competitive advantage,
Resources and capabilities must combine to form core competencies.
Firms should consciously work to identify these.
Evaluation should occur in the context of PESTEL.
Evaluation should occur in the context of Competition.
Use Porter’s Five Forces.
Use the Strategic Group Map.

© McGraw Hill

4

Inside the Firm: Competitive Advantage
Exhibit 4.2

© McGraw Hill

5

Internal Firm Differences Lead to Competitive Advantage
Strengths should be dynamic.
Adjust along with the external environment.
Strategically fit within the environment:
Resources.
Capabilities.
Competencies

© McGraw Hill

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Competitive Advantage
Gaining & Sustaining

CORE COMPETENCIES

CAPABILITIES

Strategically Integrated Resources

Embedded Strengths Enabling Value-Creation

RESOURCES

Assets Leveraged for Strategy Formulation/ Implementation

What Are Core Competencies?
Unique strengths…embedded deep within a firm…that allows the firm to differentiate from rivals.
Results in creating higher value for the customer
OR
Results in products and services offered at lower cost.
Expressed through structures, processes, routines.

© McGraw Hill
Take Honda as an example of a company with a clearly defined core competency. Its life began with a small two-cycle motorbike engine. Through continuous learning over several decades, and often from lessons learned from failure, Honda built the core competency to design and manufacture small but powerful and highly reliable engines for which it now is famous. This core competency results from superior engineering know-how and skills carefully nurtured and honed over several decades. Honda’s business model is to find a place to put its engines. Today, Honda engines can be found everywhere: in cars, SUVs, vans, trucks, motorcycles, ATVs, boats, generators, snow blowers, lawn mowers and other yard equipment, and even small airplanes. Due to their superior performance, Honda engines have been the most popular in the Indy Racing League (IRL) since 2006. Not coincidentally, this was also the first year in its long history that the Indy 500 was run without a single engine problem.
Instructors:
The digital companion to this book McGraw-Hill Connect has an application exercise on this section of the textbook. It builds student confidence on the core competencies (LO 4-1).
8

Examples of Core Competencies
Offers highest quality ingredients, wide range of free toppings, simple menu.
Chose not to have drive throughs or an expanded menu.
Perception of coolness marketing.
Engineering expertise in designing battery powered motors and power trains.
Creates proprietary algorithms-based on individual customer preferences.

© McGraw Hill

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Looking Inside the Firm for Core Competencies
McDonald’s core competency is providing convenience when people need and want to eat fast food at prices that are competitive and provide best value for the customer’s money.
McDonald’s competitive advantages:
is its focus on consistency of quality and production of food
their brand is recognized world wide

4-‹#›

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Looking Inside the Firm for Core Competencies

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© McGraw Hill
Would you buy a steak from McDonalds?
Why not?
What would it take for you to try it? Anything?
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Looking Inside the Firm for Core Competencies

Stay in your swim lanes!

4-‹#›

© McGraw Hill
Would you buy a car designed and built by McDonalds?
Why not?
What would it take for you to try it? Anything?
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Resources, Capabilities and Activities
Resources:
Any assets that a firm can draw on
Ex: cash, buildings, machinery, or
Intellectual property.
Capabilities:
Organizational and managerial skills
Ex: structure, routines, and culture.
Activities:
Distinct and fine-grained business processes
Ex. Order taking, invoicing, delivery

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© McGraw Hill
Resources: Any assets that a firm can draw on when formulating and implementing a strategy.
Capabilities: Organizational and managerial skills necessary to orchestrate a diverse set of resources and deploy them strategically.
Activities: Distinct and fine-grained business processes that enable firms to add incremental value by transforming inputs into goods and services. Examples include: order taking, the physical delivery of products, or invoicing customers.
Key point: core competencies that are not continuously nourished will eventually lose their ability to yield a competitive advantage. And second, in analyzing a company’s success in the market, it can be too easy to focus on the more visible elements or facets of core competencies such as superior products or services. While these are the outward manifestation of core competencies, what is even more important is to understand the invisible part of core competencies.
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The Resource Based View
Resources are key to superior firm performance
Aids in identifying core competencies
Resources fall into two categories:
Tangible-Resources that have physical attributes and are visible
Intangible-Resources that do not have physical attributes and invisible
Apple
Tangible Resource Value: $15 Billion
Intangible Resource Value: $180 Billion
Alphabet/Google
Tangible Resource Value: $59 Billion
Intangible Resource Value: $310 Billion

© McGraw Hill
Competitive advantage is more likely to develop from intangible rather than tangible resources
In the resource-based view of the firm, a resource includes any assets as well as any capabilities and competencies that a firm can draw upon when formulating and implementing strategy.

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Tangible and Intangible Resources
Exhibit 4.4
Jump to Appendix 3 long image description

© McGraw Hill
Google’s headquarters provides examples of both. The Googleplex is a piece of land with a futuristic building, and thus a tangible resource. The location of the company in the heart of Silicon Valley is an intangible resource that provides access to a valuable network of contacts and gives the company several benefits. It allows Google to tap into a large and computer-savvy work force and access graduates and knowledge spillovers from a large number of universities, which adds to Google’s technical and managerial capabilities.9 Another benefit stems from Silicon Valley’s designation as having the largest concentration of venture capital in the United States. This proximity benefits Google because venture capitalists tend to prefer local investments to ensure closer monitoring.
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Two Critical Assumptions of the RBV
Resource Heterogeneity (diverse in content/character)
Bundles of resources, core competencies and capabilities differ across firms
Resource Immobility
Resources tend to be “sticky” and do not move easily from firm to firm
Resources are difficult to replicate and can last for a long time

©McGraw-Hill Education.
Resource Heterogenayity: SWA vs. Alaska: Both compete as regional airlines, (low cost, point-to point), but they draw on different resource bundles. At SWA, everyone pitches in. (pilots load luggage, flight attendants clean cabin, all about leaving on time and15-min turnaround. This leads to higher productivity. NO UNIONS, (Unions impact cultures). This allows SWA to keep its planes flying for longer and lowers its cost structure, savings that SWA passes on to passengers in lower ticket prices. Alaska differentiates in other areas.

Resource Immobility: Continental and Delta both attempted to copy SWA, with Continental Lite and Song airline offerings, respectively. Neither airline, however, was able to successfully imitate the resource bundles and firm capabilities that make SWA unique.
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The VRIO Framework
Tool for evaluating a firm’s resource endowments
To be the basis of a competitive advantage, resources must be:
Valuable,
Rare,
Costly to Imitate
Organized to capture the value of the resource*

©McGraw-Hill Education.
*Of particular note is that the fourth characteristic is actually about the organization or firm itself rather than its resources.
According to this model, a firm can gain and sustain a competitive advantage only when it has resources that satisfy all of the VRIO criteria.
Tiffany=elegant jewelry design and craftsmanship delivered though a superior customer experience.
VRI for competitors, (Blue box protected, but not the name Tiffany in design)

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The VRIO Decision Tree
Exhibit 4.5
Jump to Appendix 4 long image description

©McGraw-Hill Education.
If the answer is “yes” four times to the attributes listed in the decision tree, only then is the resource in question a core competency that underpins a firm’s sustainable competitive advantage.

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A Resource Is…
Valuable if:
It helps to exploit an opportunity or offset a threat.
Rare if:
Only one or a few firms possess it.
Costly to Imitate if:
Competitors can’t develop the resource for a reasonable price.
The firm is organization to capture value through:
Effective internal organizational structure and coordinating systems.

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© McGraw Hill
Valuable: Five Guys’ superior ability to deliver fresh, customized hamburgers as well as hand-cut fries using the highest-quality ingredients is certainly valuable because it enables the firm to command a premium price due to its perceived higher value creation. Although Five Guys excels at driving up the perceived value of its offerings, it also needs to control costs to ensure that this valuable resource can lay the foundation for a competitive advantage.
Rare: When Five Guys was founded in 1986, its superior ability to deliver made-to-order hamburgers from the freshest ingredients and hand-cut fries made from the best potatoes was certainly rare, as was its restaurant concept: It was neither a fast food place nor a traditional sit-down establishment. It offered a limited menu, no drive-through option, and a self-service format. This remains the case and Five Guys has managed to charge premium prices for its product—prices that are multiple times higher than that of its fast food competitors. Today, restaurant models like Five Guys are called fast-casual restaurants, a term that didn’t come into the dining vernacular until the 2000s, despite well-known Five Guys’ competitors such as Chipotle Mexican Grill (founded in 1993) coming onto the scene much earlier. 
Costly to imitate: Five Guys spent almost 20 years refining, honing, upgrading, and eventually perfecting its core competency before franchising nationally. This in turn enabled Five Guys to more easily duplicate its core competency in different geographic areas as it franchised throughout the United States and beyond. 

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Isolating Mechanisms
Barriers to imitation – Prevents rivals from competing away firm advantage…
Better expectations of future resource value
Real Estate, Nike with young athletes
Path dependence- 80% of carpets made in Dalton
Causal ambiguity – Apple
Social complexity – Zappos
Intellectual property (IP) protection
Patents, designs, copyrights, trademarks, trade secrets

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BETTER EXPECTATIONS OF FUTURE RESOURCE VALUE. Sometimes firms can acquire resources at a low cost, which lays the foundation for a competitive advantage later when expectations about the future of the resource turn out to be more accurate. Example: obtain real estate/land at a low cost.
PATH DEPENDENCE: describes a process in which the options one faces in a current situation are limited by decisions made in the past. Ex; 80% of U.S. carpets are made in Dalton, GA.
CAUSAL AMBIGUITY. Causal ambiguity describes a situation in which the cause and effect of a phenomenon are not readily apparent. Ex: it is difficult to determine the exact root cause of Apple’s success
SOCIAL COMPLEXITY: describes situations where different social & business systems interact. Ex: the culture of Zappo’s leads to their excellence in cust. service
INTELLECTUAL PROPERTY PROTECTION. Intellectual property (IP) protection is a critical intangible resource that can also help sustain a competitive advance. Examples: patents, designs, copyrights, trademarks, trade secrets.
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Core Rigidity
A former core competency turned into a liability
Result of an environment change
No longer fits in the external environment
Causes loss of competitive advantage
The firm may even go out of business.

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Causes loss of competitive advantage…The firm may even go out of business.
Once a market leader, Circuit City’s core competencies were in efficient logistics and superior customer service. But the firm neglected to upgrade and hone them over time. As a consequence, Circuit City was outflanked by Best Buy and online retailer Amazon, and the company went bankrupt. Best Buy encountered the same difficulties competing against Amazon just a few years later. Core competencies might form the basis for a competitive advantage at one point, but as the environment changes, the very same core competencies might later turn into core rigidities, retarding the firm’s ability to change.
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Dynamic Capabilities
A firm’s ability to:
Adapt resources over time
Create, deploy, modify, reconfigure, upgrade, leverage
In consideration of the external environment
Dynamic markets are due to:
Technological change, deregulation, globalization, demographic shifts.
Resources are created, deployed, modified, reconfigured, or upgraded.

©McGraw-Hill Education.
Apple’s dynamic capabilities allowed it to redefine the markets for mobile devices and computing, in particular in music, smartphones, and media content. For the portable music market through its iPod and iTunes store, Apple generated environmental change to which Sony and others had to respond. With its iPhone, Apple redefined the market for smartphones, again creating environmental change to which competitors such as Samsung, BlackBerry, Google (with its Motorola Mobility unit), or Microsoft (with its Nokia unit) must respond. Apple’s introduction of the iPad redefined the media and tablet computing market, forcing competitors such as Amazon and Microsoft to respond. With the introduction of the Apple Watch it is attempting to shape the market for computer wearables in its favor.
iPod was incredible breakthru, but Apple has evolved it into obsolescence…creative destruction.
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The Value Chain
Internal activities a firm engages in when transforming inputs into outputs.
Through primary and support activities.
Each activity adds incremental value.
Raw materials  components  products
Each activity also adds incremental costs.

© McGraw Hill
Five Guys’ core competency is to offer a simple menu of fresh, high-quality burgers and fries and a great customer experience. To command a premium price for these products and service, Five Guys needs to engage in number of distinct activities. Though it may seem simple, the ability to implement diverse sets of distinct activities every day across multiple geographic locations is no small feat. Examples: sourcing ingredients, store setup, quality of toppings and condiments offered, development of processes prior to franchising.
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A Generic Value Chain
Exhibit 4.8
Access the text alternative for slide images.

© McGraw Hill
Retail chain American Eagle Outfitters, for example, needs to identify suitable store locations, either build or rent stores, purchase goods and supplies, manage distribution and store inventories, operate stores both in the brick-and-mortar world and online, hire and motivate a sales force, create payment and IT systems or partner with vendors, engage in promotions, and ensure after-sales services including returns.
A maker of semiconductor chips such as Intel, on the other hand, needs to engage in R&D, design and engineer semiconductor chips and their production processes, purchase silicon and other ingredients, set up and staff chip fabrication plants, control quality and throughput, engage in marketing and sales, and provide after-sales customer support.
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Primary Activities
Firm activities add value directly.
Transform inputs into outputs.
Focused on moving from raw materials, through production phases, to sales and marketing, and finally customer service.
Supply chain management.
Operations.
Distribution.
Marketing and sales.
After-sales service.

© McGraw Hill
Support Activities
Firm activities that add value indirectly.
Necessary to sustain primary activities.
Research and development (R&D).
Information systems.
Human resources.
Accounting and finance.
Firm infrastructure including processes, policies, and procedures.

© McGraw Hill
SWOT Analysis
Synthesizes internal analysis of the company’s strengths and weaknesses with those from an analysis of external opportunities and threats

SWOT = VRIO framework + PESTEL + Porter’s five forces

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Draw on board
A SWOT analysis is still one of the most widely used tools of strategy in industry.

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SWOT Strategic Questions

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SO- how to manage strengths to take advantage of opportunities?
ST- how to use strengths to reduce likelihood and impact of threats?
WO-how to overcome weaknesses that prevent firm from taking advantage of opportunities?
WT-how to overcome weaknesses that make threats a reality?
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SWOT limitations
SWOT analysis is a widely used management tool but…
…a strength can also be a weakness…and an opportunity can also be a threat.

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The argument is that identifying SWOT is arbitrary. Is LeBron James a strength or a weakness to Cleveland Cavaliers? S=one of the most accomplished/acclaimed players. W=older and my intimidate younger players.
To be an effective management tool, the strategist must conduct a thorough external and internal analysis and then use as part of the solution to create a set of strategic options.
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Areas of Strength and Weaknesses
Financial Brand
Market Share Distribution
Growth Quality
Consistency Products
Service Geography
Talent R&D
Technology Consistency

©McGraw-Hill Education.

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SWOT Analysis of Wireless Carriers

©McGraw-Hill Education.

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