Business policy and strategy project

Strategic Management Concepts and Cases A Competitive Advantage Approach

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Strategic Management Concepts and Cases A Competitive Advantage Approach Fourteenth Edition

Fred R. David Francis Marion University

Florence, South Carolina

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Library of Congress Cataloging-in-Publication Data David, Fred R.

Strategic management concepts and cases: a competitive advantage approach / Fred R. David. — 14th ed. p. cm. Previously published under title: Strategic management. ISBN-13: 978-0-13-266423-3 ISBN-10: 0-13-266423-2 1. Strategic planning. 2. Strategic planning—Case studies. I. Title.

HD30.28.D385 2013 658.4'012—dc23 2011035610

10 9 8 7 6 5 4 3 2 1

ISBN 10: 0-13-266423-2 ISBN 13: 978-0-13-266423-3

To Spikes and Aubie David— for fifteen years of love.

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Brief Contents

Preface xv

Acknowledgments xxiii

About the Author xxvii

PART 1 Overview of Strategic Management 2 Chapter 1 The Nature of Strategic Management 2

THE COHESION CASE: THE WALT DISNEY COMPANY—2011 24

PART 2 Strategy Formulation 42 Chapter 2 The Business Vision and Mission 42 Chapter 3 The External Assessment 60 Chapter 4 The Internal Assessment 92 Chapter 5 Strategies in Action 130 Chapter 6 Strategy Analysis and Choice 170

PART 3 Strategy Implementation 210 Chapter 7 Implementing Strategies: Management and Operations

Issues 210 Chapter 8 Implementing Strategies: Marketing, Finance/Accounting, R&D,

and MIS Issues 250

PART 4 Strategy Evaluation 284 Chapter 9 Strategy Review, Evaluation, and Control 284

PART 5 Key Strategic-Management Topics 308 Chapter 10 Business Ethics/Social Responsibility/Environmental

Sustainability 308 Chapter 11 Global/International Issues 328

PART 6 Strategic-Management Case Analysis 358 How to Prepare and Present a Case Analysis 358

Name Index 371

Subject Index 379

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Contents

Preface xv

Acknowledgments xxiii

About the Author xxvii

PART 1 Overview of Strategic Management 2

Chapter 1 The Nature of Strategic Management 2 WINNEBAGO INDUSTRIES INC.: EXCELLENT STRATEGIC MANAGEMENT SHOWCASED 4

What Is Strategic Management? 5 Defining Strategic Management 5 ■ Stages of Strategic Management 5 ■ Integrating Intuition and Analysis 6 ■ Adapting to Change 7

Key Terms in Strategic Management 8 Competitive Advantage 8 ■ Strategists 9 ■ Vision and Mission Statements 10 ■ External Opportunities and Threats 10 ■ Internal Strengths and Weaknesses 11 ■ Long- Term Objectives 11 ■ Strategies 11 ■ Annual Objectives 11 ■ Policies 12

The Strategic-Management Model 13 Benefits of Strategic Management 15

Financial Benefits 15 ■ Nonfinancial Benefits 16

Why Some Firms Do No Strategic Planning 16 Pitfalls in Strategic Planning 17 Guidelines for Effective Strategic Management 17 Comparing Business and Military Strategy 19 Special Note to Students 20

THE COHESION CASE: THE WALT DISNEY COMPANY—2011 24 ASSURANCE OF LEARNING EXERCISES 38 Assurance of Learning Exercise 1A: Compare Business Strategy with Military Strategy 38 Assurance of Learning Exercise 1B: Gather Strategy Information 39 Assurance of Learning Exercise 1C: Update the Walt Disney Cohesion Case 39 Assurance of Learning Exercise 1D: Strategic Planning for My University 40 Assurance of Learning Exercise 1E: Strategic Planning at a Local Company 40 Assurance of Learning Exercise 1F: Get Familiar with SMCO 41

PART 2 Strategy Formulation 42

Chapter 2 The Business Vision and Mission 42 DOLLAR GENERAL CORPORATION: EXCELLENT STRATEGIC MANAGEMENT SHOWCASED 44

What Do We Want to Become? 45 What Is Our Business? 45

Vision versus Mission 47 ■ The Process of Developing Vision and Mission Statements 47

Importance (Benefits) of Vision and Mission Statements 48

A Resolution of Divergent Views 48

Characteristics of a Mission Statement 49 A Declaration of Attitude 49 ■ A Customer Orientation 51 ■ Mission Statement Components 51

Writing and Evaluating Mission Statements 52 Special Note to Students 52

ASSURANCE OF LEARNING EXERCISES 56 Assurance of Learning Exercise 2A: Compare Dollar General’s Mission Statement to Family Dollar’s Mission Statement 56 Assurance of Learning Exercise 2B: Evaluate Mission Statements 57 Assurance of Learning Exercise 2C: Write a Vision and Mission Statement for the Walt Disney Company 57 Assurance of Learning Exercise 2D: Write a Vision and Mission Statement for My University 58 Assurance of Learning Exercise 2E: Conduct Mission Statement Research 58 Assurance of Learning Exercise 2F: Evaluate a Mission Proposal 58

Chapter 3 The External Assessment 60 The Nature of an External Audit 62

WELLS FARGO & COMPANY: EXCELLENT STRATEGIC MANAGEMENT SHOWCASED 62 Key External Forces 63 The Process of Performing an External Audit 64

The Industrial Organization (I/O) View 65 Economic Forces 65 Social, Cultural, Demographic, and Natural Environment Forces 67 Political, Governmental, and Legal Forces 68

American Labor Unions 69

Technological Forces 71 Competitive Forces 72

Competitive Intelligence Programs 74 ■ Market Commonality and Resource Similarity 75

Competitive Analysis: Porter’s Five-Forces Model 75 Rivalry Among Competing Firms 76 ■ Potential Entry of New Competitors 77 ■ Potential Development of Substitute Products 77 ■ Bargaining Power of Suppliers 78 ■ Bargaining Power of Consumers 78

Sources of External Information 79 Forecasting Tools and Techniques 79

Making Assumptions 80

Industry Analysis: The External Factor Evaluation (EFE) Matrix 80 The Competitive Profile Matrix (CPM) 83 Special Note to Students 84

ASSURANCE OF LEARNING EXERCISES 87 Assurance of Learning Exercise 3A: Competitive Intelligence (CI) Certification 87 Assurance of Learning Exercise 3B: Develop Divisional Walt Disney EFE Matrices 88 Assurance of Learning Exercise 3C: Develop an EFE Matrix for Walt Disney 88

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Assurance of Learning Exercise 3D: Perform an External Assessment 89 Assurance of Learning Exercise 3E: Develop an EFE Matrix for My University 89 Assurance of Learning Exercise 3F: Develop Divisional Walt Disney CPMs 90 Assurance of Learning Exercise 3G: Develop a Competitive Profile Matrix for Walt Disney 90 Assurance of Learning Exercise 3H: Develop a Competitive Profile Matrix for My University 90

Chapter 4 The Internal Assessment 92 The Nature of an Internal Audit 94

PEARSON PLC: EXCELLENT STRATEGIC MANAGEMENT SHOWCASED 94 Key Internal Forces 95 ■ The Process of Performing an Internal Audit 96

The Resource-Based View (RBV) 97 Integrating Strategy and Culture 98 Management 100

Planning 100 ■ Organizing 102 ■ Motivating 102 ■ Staffing 103 ■ Controlling 103 ■ Management Audit Checklist of Questions 104

Marketing 104 Customer Analysis 104 ■ Selling Products/Services 104 ■ Product and Service Planning 106 ■ Pricing 106 ■ Distribution 107 ■ Marketing Research 107 ■ Cost/ Benefit Analysis 107 ■ Marketing Audit Checklist of Questions 108

Finance/Accounting 108 Finance/Accounting Functions 108 ■ Basic Types of Financial Ratios 109 ■ Finance/Accounting Audit Checklist 114

Production/Operations 115 Production/Operations Audit Checklist 116

Research and Development 116 Internal and External R&D 117 ■ Research and Development Audit 118

Management Information Systems 118 Management Information Systems Audit 118

Value Chain Analysis (VCA) 119 Benchmarking 121

The Internal Factor Evaluation (IFE) Matrix 122 Special Note to Students 123

ASSURANCE OF LEARNING EXERCISES 128 Assurance of Learning Exercise 4A: Apply Breakeven Analysis 128 Assurance of Learning Exercise 4B: Develop Divisional Disney IFEMs 128 Assurance of Learning Exercise 4C: Perform a Financial Ratio Analysis for Walt Disney 128 Assurance of Learning Exercise 4D: Construct an IFE Matrix for Walt Disney 129 Assurance of Learning Exercise 4E: Construct an IFE Matrix for My University 129

Chapter 5 Strategies in Action 130 Long-Term Objectives 132

EXXONMOBIL CORPORATION: EXCELLENT STRATEGIC MANAGEMENT SHOWCASED 132

The Nature of Long-Term Objectives 133 ■ Financial versus Strategic Objectives 133 ■ Not Managing by Objectives 134

The Balanced Scorecard 135 Types of Strategies 135

Levels of Strategies 136

Integration Strategies 138 Forward Integration 138 ■ Backward Integration 139 ■ Horizontal Integration 140

Intensive Strategies 141 Market Penetration 141 ■ Market Development 141 ■ Product Development 142

Diversification Strategies 143 Related Diversification 144 ■ Unrelated Diversification 145

Defensive Strategies 146 Retrenchment 146 ■ Divestiture 147 ■ Liquidation 148

Michael Porter’s Five Generic Strategies 148 Cost Leadership Strategies (Type 1 and Type 2) 150 ■ Differentiation Strategies (Type 3) 151 ■ Focus Strategies (Type 4 and Type 5) 152 ■ Strategies for Competing in Turbulent, High-Velocity Markets 152

Means for Achieving Strategies 153 Cooperation Among Competitors 153 ■ Joint Venture/ Partnering 153 ■ Merger/Acquisition 155 ■ Private-Equity Acquisitions 157 ■ First Mover Advantages 157 ■ Outsourcing 158

Strategic Management in Nonprofit and Governmental Organizations 159

Religious Facilities 160 ■ Educational Institutions 160 ■ Medical Organizations 160 ■ Governmental Agencies and Departments 161

Strategic Management in Small Firms 161 Special Note to Students 161

ASSURANCE OF LEARNING EXERCISES 165 Assurance of Learning Exercise 5A: Develop Hypothetical Disney Strategies 165 Assurance of Learning Exercise 5B: Evaluate Disney Divisions in Terms of Porter’s Strategies 165 Assurance of Learning Exercise 5C: What Strategies Should Disney Pursue in 2013? 166 Assurance of Learning Exercise 5D: Examine Strategy Articles 166 Assurance of Learning Exercise 5E: Classify Some Year 2011 Strategies 167 Assurance of Learning Exercise 5F: How Risky Are Various Alternative Strategies? 168 Assurance of Learning Exercise 5G: Develop Alternative Strategies for My University 168 Assurance of Learning Exercise 5H: Lessons in Doing Business Globally 169

Chapter 6 Strategy Analysis and Choice 170 The Nature of Strategy Analysis and Choice 172

NETFLIX, INC.: EXCELLENT STRATEGIC MANAGEMENT SHOWCASED 172 The Process of Generating and Selecting Strategies 173

A Comprehensive Strategy-Formulation Framework 174 The Input Stage 175 The Matching Stage 175

The Strategic Position and Action Evaluation (SPACE) Matrix 178 ■ The Boston Consulting Group (BCG) Matrix 182 ■ The Internal- External (IE) Matrix 186 ■ The Grand Strategy Matrix 189

The Decision Stage 190 The Quantitative Strategic Planning Matrix (QSPM) 191 Positive Features and Limitations of the QSPM 194

CONTENTS xi

Cultural Aspects of Strategy Choice 196

The Politics of Strategy Choice 196

Governance Issues 197

Special Note to Students 200 ASSURANCE OF LEARNING EXERCISES 203 Assurance of Learning Exercise 6A: Perform a SWOT Analysis for Disney’s Parks & Resorts Business Segment 203 Assurance of Learning Exercise 6B: Develop a SWOT Matrix for Walt Disney 204 Assurance of Learning Exercise 6C: Develop a SPACE Matrix for Disney’s Media Networks Business Segment 204 Assurance of Learning Exercise 6D: Develop a SPACE Matrix for Walt Disney 205 Assurance of Learning Exercise 6E: Develop a BCG Matrix for Walt Disney 205 Assurance of Learning Exercise 6F: Develop a QSPM for Walt Disney 205 Assurance of Learning Exercise 6G: Formulate Individual Strategies 206 Assurance of Learning Exercise 6H: The Mach Test 206 Assurance of Learning Exercise 6I: Develop a BCG Matrix for My University 208 Assurance of Learning Exercise 6J: The Role of Boards of Directors 208 Assurance of Learning Exercise 6K: Locate Companies in a Grand Strategy Matrix 208

PART 3 Strategy Implementation 210

Chapter 7 Implementing Strategies: Management and Operations Issues 210

HALLIBURTON COMPANY: EXCELLENT STRATEGIC MANAGEMENT SHOWCASED 212

The Nature of Strategy Implementation 213 Management Perspectives 214

Annual Objectives 215

Policies 217

Resource Allocation 219

Managing Conflict 219

Matching Structure with Strategy 220 The Functional Structure 221 ■ The Divisional Structure 222 ■ The Strategic Business Unit (SBU) Structure 225 ■ The Matrix Structure 227 ■ Some Do's and Don’ts in Developing Organizational Charts 227

Restructuring and Reengineering 230 Restructuring 230 ■ Reengineering 231

Linking Performance and Pay to Strategies 231

Managing Resistance to Change 234

Creating a Strategy-Supportive Culture 235

Production/Operations Concerns When Implementing Strategies 236

Human Resource Concerns When Implementing Strategies 237 Employee Stock Ownership Plans (ESOPs) 239 ■ Balancing Work Life and Home Life 240 ■ Benefits of a Diverse Workforce 242 ■ Corporate Wellness Programs 242

Special Note to Students 244 ASSURANCE OF LEARNING EXERCISES 247

Assurance of Learning Exercise 7A: The Hershey Company Needs Your Help 247

Assurance of Learning Exercise 7B: Draw an Organizational Chart Using a Free, Online Template 248 Assurance of Learning Exercise 7C: Revise Walt Disney’s Organizational Chart 248 Assurance of Learning Exercise 7D: Do Organizations Really Establish Objectives? 249 Assurance of Learning Exercise 7E: Understanding My University’s Culture 249

Chapter 8 Implementing Strategies: Marketing, Finance/Accounting, R&D, and MIS Issues 250

The Nature of Strategy Implementation 252 WHOLE FOODS MARKET INC.: EXCELLENT STRATEGIC MANAGE- MENT SHOWCASED 252

Current Marketing Issues 253 New Principles of Marketing 254 ■ Advertising Media 255 ■ Purpose-Based Marketing 256

Market Segmentation 256 Retention-Based Segmentation 257 ■ Does the Internet Make Market Segmentation Easier? 259

Product Positioning 259 Finance/Accounting Issues 261

Acquiring Capital to Implement Strategies 261 ■ Projected Financial Statements 264 ■ Projected Financial Statement Analysis for Whole Foods Market 268 ■ Financial Budgets 270 Evaluating the Worth of a Business 272 ■ Deciding Whether to Go Public 275

Research and Development (R&D) Issues 275 Management Information Systems (MIS) Issues 277

Business Analytics 278

Special Note to Students 278 ASSURANCE OF LEARNING EXERCISES 281 Assurance of Learning Exercise 8A: Develop Divisional Product Positioning Maps for Walt Disney 281 Assurance of Learning Exercise 8B: Gain Practice Developing Product Positioning Maps 282 Assurance of Learning Exercise 8C: Perform an EPS/EBIT Analysis for Walt Disney 282 Assurance of Learning Exercise 8D: Prepare Projected Financial Statements for Walt Disney 282 Assurance of Learning Exercise 8F: Develop a Product-Positioning Map for My University 283 Assurance of Learning Exercise 8G: Do Banks Require Projected Financial Statements? 283

PART 4 Strategy Evaluation 284

Chapter 9 Strategy Review, Evaluation, and Control 284

The Nature of Strategy Evaluation 286 MCDONALD’S CORPORATION: EXCELLENT STRATEGIC MANAGEMENT SHOWCASED 286 The Process of Evaluating Strategies 290

A Strategy-Evaluation Framework 291 Reviewing Bases of Strategy 291 ■ Measuring Organizational Performance 292 ■ Taking Corrective Actions 295

The Balanced Scorecard 296

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Published Sources of Strategy-Evaluation Information 297 Characteristics of an Effective Evaluation System 298 Contingency Planning 299 Auditing 300 Twenty-First-Century Challenges in Strategic Management 301

The Art of Science Issue 301 ■ The Visible or Hidden Issue 302 ■ The Top-Down or Bottom-Up Approach 303

Special Note to Students 303 ASSURANCE OF LEARNING EXERCISES 306 Assurance of Learning Exercise 9A: Examine 100 Balanced Scorecards 306 Assurance of Learning Exercise 9B: Prepare a Strategy-Evaluation Report for Walt Disney 306 Assurance of Learning Exercise 9C: Evaluate My University’s Strategies 307

PART 5 Key Strategic-Management Topics 308

Chapter 10 Business Ethics/Social Responsibility/ Environmental Sustainability 308

GENERAL MOTORS (GM) CORP.: EXCELLENT STRATEGIC MANAGEMENT SHOWCASED 310

Business Ethics 311 Code of Business Ethics 312 ■ An Ethics Culture 312 ■ Bribes 314 ■ Love Affairs at Work 315

Social Responsibility 316 Social Policy 316 ■ Social Policies on Retirement 317

Environmental Sustainability 317 ■ What Is a Sustainability Report? 319 ■ Lack of Standards Changing 319 ■ Federal Regulations 320 ■ Managing Environmental Affairs in the Firm 320 ■ Should Students Receive Environmental Training? 320 ■ Reasons Why Firms Should “Be Green” 321 ■ Be Proactive, Not Reactive 321 ■ ISO 14000/14001 Certification 321 ■ Electric Car Networks Are Here 322

Special Note to Students 323 ASSURANCE OF LEARNING EXERCISES 326 Assurance of Learning Exercise 10A: How Does My Municipality Compare to Others on Being Pollution-Safe? 326 Assurance of Learning Exercise 10B: Evaluate Disney’s Standards of Business Conduct 326 Assurance of Learning Exercise 10C: Compare and Evaluate Sustainability Reports 326 Assurance of Learning Exercise 10D: The Ethics of Spying on Competitors 327 Assurance of Learning Exercise 10E: Who Prepares a Sustainability Report? 327

Chapter 11 Global/International Issues 328 AMAZON.COM: EXCELLENT STRATEGIC MANAGEMENT SHOW- CASED 330

Multinational Organizations 333 Advantages and Disadvantages of International Operations 333 The Global Challenge 334

Globalization 335

Corporate Tax Rates Globally 335

United States versus Foreign Business Cultures 337 Communication Differences Across Countries 339 Business Culture Across Countries 339

Mexico—Business Culture 339 ■ Japan—Business Culture 340 ■ Brazil—Business Culture 342 ■ Germay—Business Culture 342 ■ Egypt—Business Culture 343 ■ China— Business Culture 343 ■ India—Business Culture 344 ■ Nigeria—Business Culture 345

Business Climate Across Countries/Continents 345 African Countries 345 ■ China 347 ■ Philippines 348 ■ Taiwan 349 India 349 ■ Germany 350 ■ Mexico 351

Special Note to Students 352 ASSURANCE OF LEARNING EXERCISES 355 Assurance of Learning Exercise 11A: Compare Business Cultures Across Countries 355 Assurance of Learning Exercise 11B: Staples Wants to Enter Africa. Help Them. 355 Assurance of Learning Exercise 11C: Does My University Recruit in Foreign Countries? 356 Assurance of Learning Exercise 11D: Assess Differences in Culture Across Countries 356 Assurance of Learning Exercise 11E: How Well Traveled Are Business Students at My University? 356

PART 6 Strategic-Management Case Analysis 358

How to Prepare and Present a Case Analysis 358 What is a Strategic-Management Case? 360 Guidelines for Preparing Case Analyses 360

The Need for Practicality 360 ■ The Need for Justification 360 ■ The Need for Realism 360 ■ The Need for Specificity 360 ■ The Need for Originality 361 ■ The Need to Contribute 361

Preparing a Case for Class Discussion 361 The Case Method versus Lecture Approach 361

The Cross-Examination 362

Preparing a Written Case Analysis 362 The Executive Summary 362 ■ The Comprehensive Written Analysis 362 ■ Steps in Preparing a Comprehensive Written Analysis 363

Making an Oral Presentation 363 Organizing the Presentation 363 ■ Controlling Your Voice 364 ■ Managing Body Language 364 ■ Speaking from Notes 364 ■ Constructing Visual Aids 364 ■ Answering Questions 364 ■ Tips for Success in Case Analysis 364 ■ Content Tips 365 ■ Process Tips 365 ■ Sample Case Analysis Outline 366 STEPS IN PRESENTING AN ORAL CASE ANALYSIS 367 Oral Presentation—Step 1: Introduction (2 minutes) 367 Oral Presentation—Step 2: Mission/Vision (4 minutes) 367 Oral Presentation—Step 3: Internal Assessment (8 minutes) 368 Oral Presentation—Step 4: External Assessment (8 minutes) 368 Oral Presentation—Step 5: Strategy Formulation (14 minutes) 368 Oral Presentation—Step 6: Strategy Implementation (8 minutes) 369 Oral Presentation—Step 7: Strategy Evaluation (2 minutes) 369 Oral Presentation—Step 8: Conclusion (4 minutes) 369

Name Index 371 Subject Index 379

Cases

Service Firms MOVIE/MUSIC STREAMING 1. Netflix, Inc. — 2011, Lori Radulovich 3 2. Amazon.com, Inc. — 2011, M. Jill Austin and Ralph I. Williams Jr. 15

RETAIL DRUG STORES 3. CVS Caremark Corporation — 2011, Alen Badal 27 4. Walgreen Company — 2011, Sharynn M. Tomlin 35

APPAREL STORES 5. V.F. Corporation — 2011, John J. Burbridge Jr. and Coleman R. Rich 46 6. Gap, Inc. — 2011, Sharynn M. Tomlin 54

OFFICE SUPPLY STORES 7. Staples, Inc. — 2011, William J. Donoher 66 8. Office Depot, Inc. — 2011, Wayne E. Smith 78

AIRLINES 9. Southwest Airlines Company — 2011, Amit J. Shah and Michael L. Monahan 87 10. United Continental Holdings, Inc. — 2011, Charles M. Byles 98 11. Ryanair Holdings, plc — 2011, Charles M. Byles 111

CRUISE LINES 12. Royal Caribbean Cruises Ltd. — 2011, Mary R. Dittman 123 13. Carnival Corporation & plc — 2011, Mernoush Banton 132

FINANCIAL INSTITUTIONS 14. Bank of America Corporation — 2011, Fred R. David 143 15. E*TRADE Financial Corporation — 2011, Amit J. Shah and Michael L. Monahan 149

TELECOMMUNICATIONS 16. Verizon Communications, Inc. — 2011, Deana M. Raffo 157

Manufacturing Firms BOOK PUBLISHING 17. The McGraw-Hill Companies, Inc. — 2011, Vijaya Narapareddy 166

PERSONAL CARE PRODUCTS 18. Procter & Gamble Company — 2011, Alen Badal 175 19. Estée Lauder Companies, Inc.— 2011, Sharynn M. Tomlin 185 20. Revlon, Inc. — 2011, M. Jill Austin and Laura M. Buckner 196

PHARMACEUTICAL 21. Bristol-Meyers Squibb — 2011, Gail J. Robin 207 22. Eli Lilly & Company — 2011, Gail J. Robin 216

BEVERAGE 23. Dr Pepper Snapple Group, Inc. — 2011, Joseph S. Harrison 225 24. Coca-Cola Company — 2011, Alen Badal 235 25. Starbucks Corporation — 2011, Marlene M. Reed and Rochelle R. Brunson 244

COMPUTERS 26. Dell, Inc. — 2011, Matthew Baker and Anne M. Walsh 252 27. Apple, Inc. — 2011, Mernoush Banton 262

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Preface

Why the Need for This New Edition? The world is dramatically different than it was two years ago. The global economic recovery has created a business environment that is quite different and more complex than it was when the previous edition of this text was published. Thousands of businesses are now flourishing and consumers are again buying discretionary products. Tight credit markets remain, as do high unemployment and high food prices, but millions of new entrepreneurs have entered the business world globally. Democracy is taking hold in the Middle East, and China has replaced Japan as the world’s second largest in gross domestic product. Business firms today are leaner and meaner than ever, so gaining and sustaining competitive advantage is harder than ever. Intense price competition, rapid technological change, and social networking have altered marketing to its core. Opportunities and threats abound today all over the world, includ- ing Africa. This new edition reveals how to conduct effective strategic planning in this new world order.

Since the prior edition, thousands of liquidations, bankruptcies, divestitures, mergers, al- liances, and partnerships captured the news. Private equity firms returned to the spotlight by taking hundreds of firms public and acquiring hundreds more. Corporate scandals highlighted the need for improved business ethics and corporate disclosure of financial transactions. Downsizing, rightsizing, and reengineering contributed to a permanently altered corporate landscape. Thousands of firms began doing business globally, and thousands more closed their global operations. Thousands prospered, and yet thousands failed in the last two years as more industries commoditized, making strategic management an even more important factor in being successful. Long-held competitive advantages, such as print media, news, and entertainment, eroded in recent years, and new avenues for competitive advantage formed. This new edition captures the complexity of this new business environment.

There is less room for error today in the formulation and implementation of a strategic plan. This new edition provides an effective approach for developing a clear strategic plan. Changes made in this edition are aimed squarely at illustrating the effect of new business concepts and techniques on strategic-management theory and practice. Due to the magnitude of recent changes affecting companies, cultures, and countries, every page of this edition has been up- dated. This textbook is one of the most widely read strategic-management books in the world, perhaps the most widely read. This text is now published in 10 languages.

What Is New in This Edition? This 14 th edition is 40 percent different than the prior edition and is positioned to be the leader and best choice globally for teaching strategic management. Here is a summary of what is new in this edition:

• Chapter 11 , “Global/International Issues,” is expanded 70 percent. There is extensive new coverage of cultural and conceptual strategic-management differences across countries. Doing business globally has become a necessity in most industries because nearly all strategic decisions today are affected by global issues and concerns. Every case company in this edition does business globally, providing students ample opportunity to evaluate and consider international aspects of doing business.

• A brand new Cohesion Case on the Walt Disney Company (2011)—this is one of the most successful, well-known, and best managed global companies in the world—students apply strategy concepts to Walt Disney at the end of each chapter through new Assurance of Learning Exercises.

• Sixty percent brand new or improved Assurance of Learning Exercises appear at the end of all chapters to apply chapter concepts; the exercises prepare students for strategic- management case analysis.

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• A new “Special Note to Students” paragraph is provided at the end of every chapter to guide students in developing and presenting a case analysis that reveals recommendations for how a firm can best gain and sustain competitive advantage. The whole notion of how to gain and sustain competitive advantage is strengthened throughout this edition. Note the brand new subtitle heading for this book: “A Competitive Advantage Approach.”

• A brand-new boxed insert at the beginning of each chapter showcases a company doing strategic management exceptionally well.

• Nearly all brand-new examples throughout the chapters. • Extensive new narrative on strategic management theory and concepts in every chapter to

illustrate the new business world order. • On average, 15 brand-new review questions at the end of each chapter. • Brand-new color photographs bring this new edition to life and illustrate companies and

concepts. • All new current readings at the end of each chapter; new research and theories of semi-

nal thinkers in strategy development, such as Ansoff, Chandler, Porter, Hamel, Prahalad, Mintzberg, and Barney, are provided in the chapters; practical aspects of strategic manage- ment, however, are still center stage and the trademark of this text.

• Chapter 10 , “Business Ethics/Social Responsibility/Environmental Sustainability,” is expanded 40 percent, providing extensive new coverage of ethics and sustainability because this text emphasizes that “good ethics is good business.” Unique to strategic- management texts, the sustainability discussion is strengthened to promote and encour- age firms to conduct operations in an environmentally sound manner. Respect for the natural environment has become an important concern for consumers, companies, society, and AACSB-International.

• Twenty-seven brand-new cases—grouped by industry; great mix of profit/nonprofit, large/ small, and manufacturing/service organizations; all the cases have a 2011–2012 time set- ting; all the cases are “comprehensive” in the sense that each focuses on multiple business functions rather than addressing one particular business problem or issue; all cases are un- disguised and feature real organizations in real industries using real names and real places (nothing is fictitious in any case); all cases feature an organization “undergoing strategic change,” thus offering students up-to-date issues to evaluate and consider; all cases are written in a lively, concise writing style that captures the reader’s interest and establishes a time setting, usually in the opening paragraph; all cases provide excellent quantitative information such as numbers, ratios, percentages, dollar values, graphs, statistics, and maps so students can prepare a more specific, rational, and defensible strategic plan for the or- ganization; all cases provide excellent information about the industry and competitors; all cases include 2010 financial statements for the firm; all cases are supported by an excellent teacher’s note. All cases in this text are fun, exciting, and effective for teaching strategic management concepts and techniques.

Chapters: Time-Tested Features This edition continues to offer many special time-tested features and content that have made this text so successful for over 20 years. Historical trademarks of this text that are strengthened in this edition are described below.

• This text meets AACSB-International guidelines that support a practitioner orientation rather than a theory/research approach. It offers a skills-oriented approach to developing a vision and mission statement; performing an external audit; conducting an internal assess- ment; and formulating, implementing, and evaluating strategies.

• The author’s writing style is concise, conversational, interesting, logical, lively, and sup- ported by numerous current examples throughout.

• A simple, integrative strategic-management model appears in all chapters and on the inside front cover of the text. This model is widely used for strategic planning among consultants and companies worldwide. At the start of each chapter, the section of the comprehensive strategy model covered in that chapter is highlighted and enlarged so students can see the

PREFACE xvii

focus of each chapter in the basic unifying comprehensive model. One reviewer said, “One thing I have admired about David’s text is that he follows the fundamental sequence of strategy formulation, implementation, and evaluation. There is a basic flow from vision/ mission to internal/external environmental scanning to strategy development, selection, implementation, and evaluation. This has been, and continues to be, a hallmark of the David text. Many other strategy texts are more disjointed in their presentation, and thus confusing to the student, especially at the undergraduate level.”

• A Cohesion Case follows Chapter 1 and is revisited at the end of each chapter. This Cohesion Case allows students to apply strategic-management concepts and techniques to a real organization as chapter material is covered, which readies students for case analysis in the course.

• End-of-chapter Assurance of Learning Exercises effectively apply concepts and techniques in a challenging, meaningful, and enjoyable manner. Seventeen exercises apply text mate- rial to the Cohesion Case; eleven exercises apply textual material to a college or university; another nine exercises send students into the business world to explore important strategy topics. The exercises are relevant, interesting, and contemporary.

• There is excellent pedagogy in this text, including notable quotes and objectives to open each chapter, and key terms, current readings, discussion questions, and experiential exer- cises to close each chapter.

• There is excellent coverage of strategy formulation issues, such as business ethics, global versus domestic operations, vision/mission, matrix analysis, partnering, joint venturing, competitive analysis, governance, and guidelines for conducting an internal/external strat- egy assessment.

• There is excellent coverage of strategy implementation issues such as corporate culture, organizational structure, outsourcing, marketing concepts, financial analysis, and business ethics.

• A systematic, analytical approach is presented in Chapter 6 , including matrices such as the SWOT, BCG, IE, GRAND, SPACE, and QSPM.

• The chapter material is again published in a four-color format. • A chapters-only paperback version of the text is available. • Custom-case publishing is available whereby an instructor can combine chapters from this

text with cases from a variety of sources or select any number of cases desired from the 27 cases in the full text.

Cases: Time-Tested Features

• This edition contains the most current set of cases in any strategic-management text on the market. All cases include year-end 2010 financial data and information.

• The cases focus on well-known firms in the news making strategic changes. All cases are undisguised, and most are exclusively written for this text to reflect current strategic- management problems and practices. These are all “student-friendly” cases.

• Organized conveniently by industry (usually two competing firms per industry), the cases feature a great mix of domestic and international firms.

• All cases have been class tested to ensure that they are interesting, challenging, and effec- tive for illustrating strategic-management concepts.

• All cases provide complete financial information about the firm, as well as an organiza- tional chart and a vision and mission statement for the organization if those were available.

• All of the cases are comprehensive in the sense that each provides a full description of the firm and its operations rather than focusing on one issue or problem such as a plant closing. Each case thus lends itself to students preparing a three-year strategic plan for the firm.

• The Case Information Matrix and Case Description Matrix provided in the preface reveal (1) topical areas emphasized in each case and (2) contact and location information for each case company. These matrices provide suggestions on how the cases deal with concepts in the 11 chapters.

xviii PREFACE

Instructor’s Resource Center At www.pearsonhighered.com/irc , instructors can access a variety of print, digital, and presenta- tion resources available with this text in downloadable format. Registration is simple and gives you immediate access to new titles and new editions. As a registered faculty member, you can download resource files and receive immediate access and instructions for installing course management content on your campus server.

If you ever need assistance, our dedicated technical support team is ready to help with the media supplements that accompany this text. Visit http://247.pearsoned.com/ for answers to fre- quently asked questions and toll-free user support phone numbers.

The following supplements are available for download to adopting instructors:

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CourseSmart CourseSmart eTextbooks were developed for students looking to save on required or recom- mended textbooks. Students simply select their eText by title or author and purchase imme- diate access to the content for the duration of the course using any major credit card. With a CourseSmart eText, students can search for specific keywords or page numbers, take notes online, print out reading assignments that incorporate lecture notes, and bookmark important passages for later review. For more information or to purchase a CourseSmart eTextbook, visit www.coursesmart.com .

Author Website The Strategic Management Club Online at www.strategyclub.com contains templates and links to help students save time in performing analyses and make presentations look professional.

Special Note to Professors Thank you for considering this text. This new edition provides exceptionally up-to-date coverage of strategic-management concepts, theory, research, and techniques. Every sentence and paragraph has been scrutinized, modified, clarified, deleted, streamlined, updated, and/or improved to enhance the content and caliber of presentation. The basic structure of this edition stays with 11 chapters, but there are many new examples, concepts, readings, exercises, and review questions in every chapter—and a new Cohesion Case on the Walt Disney Company. The improvements in readability and coverage are dramatic. Every chapter features strategic-management concepts and practices presented in a clear, focused, and relevant manner with hundreds of new examples integrated throughout.

The skills-oriented, practitioner perspective that historically has been the foundation of this text is enhanced and strengthened in this edition. New and expanded coverage of strategic- management theories and research in the text reflect companies’ new perspective on doing business. To survive and prosper in this global economic recovery, organizations must build and sustain competitive advantage. This text is now trusted around the world to provide future and present managers the latest skills and concepts needed to effectively formulate and efficiently implement a strategic plan—a game plan, if you will—that can lead to sustainable competitive advantage for any type of business.

PREFACE xix

The reviewers and I believe you will find this edition to be the best strategic-management textbook available for communicating both the excitement and value of strategic management. Concise and exceptionally well organized, this text is now published in English, Chinese, Spanish, Thai, German, Japanese, Farsi, Indonesian, Indian, and Arabic. A version in Russian is being negotiated. On five continents, this text is widely used in colleges and universities at both the graduate and undergraduate levels. In addition, thousands of companies, organizations, and governmental bodies use this text as a management guide, making it perhaps the most widely used strategic planning book in the world.

This textbook meets all AACSB-International guidelines for the strategic-management course at both the graduate and undergraduate levels, and previous editions have been used at more than 500 colleges and universities.

A Sample of Universities Presently Using This Textbook You can trust this textbook to meet all your needs. Although very widely used around the world, a sample of colleges and universities using the prior (13th) edition of this text in English in the United States is given here:

Albany State University

Alcorn State University

Alvernia University

Ambassador College

American International College

Anderson University

Angelo State University

Aquinas College

Bellevue University

Belmont Abbey College

Benedictine University

Briar Cliff University

Brooklyn College

California State University–Long Beach

California Lutheran University

Carnegie Mellon University

Catawba College

Central Connecticut State University

Central Washington University

Chatam University

Chicago State University

Claflin University

Clarion University of Pennsylvania

Clarkson College

Cleveland State University

Columbia College

Concordia University

Delaware State University

Depaul University–Loop Campus

Dominican University

Eastern Michigan University

Eastern Oregon University

Eastern Washington University

East Stroudsburg University

Elmhurst College

Faulkner University

Florida Institute of Technology

Fort Valley State College

Francis Marion University

Fresno Pacific University

Frostburg State University

George Fox University

Georgetown College

George Washington University

Georgia Southwestern State University

Hampton University

Harding University

Hofstra University

Indiana University–Kokomo

Indiana Wesleyan University

Iona College

Jackson Community College

Jamestown College

John Brown University

Johnson & Wales University–Charlotte

Johnson & Wales University–Denver

Johnson & Wales University–Providence

Kansas State University

Keene State College

Kellogg Community College

La Salle University

Limestone College

xx PREFACE

Loyola College, Bush Center

Loyola University, Maryland

Madonna University

Marshall University

Mercer University

Mesa State College

Miami-Dade College

Middle Georgia College

Millersville University

Millsaps College

Morgan State University

Morrison College of Reno

Mount Hood Community College

Murray State University

New England College

New Mexico State University

New York University

North Carolina Wesleyan College

Norfolk State University

North Central College

Northwest Arkansas Community College

Oakland University

Ohio Dominican University

Ohio State University–Main Campus

Oklahoma State University

Oral Roberts University

Pace University–Pleasantville

Palm Beach State College

Park University

Penn State University–Abington

Penn State University–University Park

Philadelphia University

Point Park University

Queens College of CUNY

Quinnipiac University

Rider University

Robert Morris College

Roger Williams University

Saint Cloud State University

Saint Leo University

Saint Mary’s College

Saint Xavier University

Sam Houston State University

San Antonia College

Savannah State University

Seton Hall University

Siena Heights University

South Carolina State University

Southern New Hampshire University

Southern University–Baton Rouge

Southern Utah University

Southern Wesleyan University

Southwest Baptist University

St. Bonaventure University

St. Joseph College

St. Louis University

St. Thomas University

Texarkana College

Texas A&M University–Commerce

Texas A&M University–Texarkana

Texas Tech University

Three Rivers Community College

Troy University–Dothan

Troy University–Main Campus

Troy University–Montgomery

University of Alabama–Birmingham

University of Arkansas–Fayetteville

University of Colorado–Boulder

University of Hawaii–Manoa

University of Louisiana–Monroe

University of Maine–Augusta

University of Maine–Fort Kent

University of Maryland–College Park

University of Miami

University of Michigan–Flint

University of Minnesota–Crookston

University of Mobile

University of Nevada–Las Vegas

University of New Orleans

University of North Texas–Dallas

University of Pennsylvania

University of San Francisco

University of Texas–El Paso

University of Texas–Pan American

University of Texas–San Antonio

University of The Incarnate Word

PREFACE xxi

University of Toledo

University of Nevada–Reno

University of New Orleans

University of North Texas

University of Toledo

Valley City State University

VCCS

Virginia State University

Virginia Tech–Blacksburg

Wagner College

Washington University

Webster University

Western Connecticut State University

Western Kentucky University

Western Michigan University

Widener University

William Jewell College

Williams Baptist College

Winona State University

Winston-Salem State University

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Acknowledgments

Many persons have contributed time, energy, ideas, and suggestions for improving this text over 14 editions. The strength of this text is largely attributed to the collective wisdom, work, and ex- periences of strategic-management professors, researchers, students, and practitioners. Names of particular individuals whose published research is referenced in this edition of this text are listed alphabetically in the Name Index. To all individuals involved in making this text so popular and successful, I am indebted and thankful.

Many special persons and reviewers contributed valuable material and suggestions for this edition. I would like to thank my colleagues and friends at Auburn University, Mississippi State University, East Carolina University, and Francis Marion University. I have served on the management faculty at all these universities. Scores of students and professors at these schools helped shape the development of this text. Many thanks go to the following 23 reviewers whose comments shaped this 14th edition:

Moses Acquaah, The University of North Carolina at Greensboro

Charles M. Byles, Virginia Commonwealth University

Charles J. Capps III, Sam Houston State University

Neil Dworkin, Western Connecticut State University

Jacalyn M. Florn, University of Toledo

John Frankenstein, Brooklyn College/City University of New York

Bill W. Godair, Landmark College, Community College of Vermont

Carol Jacobson, Purdue University

Susan M. Jensen, University of Nebraska at Kearney

Dmitry Khanin, California State University at Fullerton

Thomas E. Kulik, Washington University at St. Louis

Jerrold K. Leong, Oklahoma State University

Trina Lynch-Jackson, Indiana University

Elouise Mintz, Saint Louis University

Raza Mir, William Paterson University

Gerry N. Muuka, Murray State University

Lori Radulovich, Baldwin-Wallace College

Thomas W. Sharkey, University of Toledo

Frederick J. Slack, Indiana University of Pennsylvania

Daniel Slater, Union University

Jill Lynn Vihtelic, Saint Mary’s College

Michael W. Wakefield, Colorado State University–Pueblo

Don Wicker, Brazosport College

Individuals who develop cases for the North American Case Research Association Meeting, the Midwest Society for Case Research Meeting, the Eastern Case Writers Association Meeting, the European Case Research Association Meeting, and Harvard Case Services are vitally important for continued progress in the field of strategic-management. From a research perspective, writing strategic-management cases represents a valuable schol- arly activity among faculty. Extensive research is required to structure strategic-management cases in a way that exposes strategic issues, decisions, and behavior. Pedagogically, strategic- management cases are essential for students in learning how to apply concepts, evaluate

xxiii

xxiv ACKNOWLEDGMENTS

situations, formulate a “game plan,” and resolve implementation problems. Without a continu- ous stream of updated cases, the strategic-management course and discipline would lose much of its energy and excitement.

Professors who teach this course supplement lecture with simulations, guest speakers, expe- riential exercises, class projects, and/or outside readings. Case analysis, however, is typically the backbone of the learning process in most strategic-management courses across the country. Case analysis is almost always an integral part of this course.

Analyzing strategic-management cases gives students the opportunity to work in teams to evaluate the internal operations and external issues facing various organizations and to craft strategies that can lead these firms to success. Working in teams gives students practical experience solving problems as part of a group. In the business world, important decisions are generally made within groups; strategic-management students learn to deal with overly aggressive group members and also timid, noncontributing group members. This experience is valuable as strategic-management students near graduation and enter the working world full time.

Students can improve their oral and written communication skills as well as their analyti- cal and interpersonal skills by proposing and defending particular courses of action for the case companies. Analyzing cases allows students to view a company, its competitors, and its industry concurrently, thus simulating the complex business world. Through case analysis, students learn how to apply concepts, evaluate situations, formulate strategies, and resolve implementation problems. Instructors typically ask students to prepare a three-year strategic plan for the firm. Analyzing a strategic-management case entails students applying concepts learned across their entire business curriculum. Students gain experience dealing with a wide range of organizational problems that impact all the business functions.

The following people wrote cases that were selected for inclusion in this 14th edition. These persons helped develop the most current compilation of cases ever assembled in a strategic- management text:

Dr. M. Jill Austin, Middle Tennessee State University

Dr. Alen Badal, The Union Institute

Matthew Baker, La Salle University

Dr. Mernoush Banton, Florida International University

Dr. Rochelle R. Brunson, Baylor University

Laura Buckner, Middle Tennessee State University

Dr. John J. Burbridge, Elon University

Dr. Charles M. Byles, Virginia Commonwealth University

Mary R. Dittman, Francis Marion University

Dr. William (Bill) J. Donoher, Missouri State University

Joseph S. Harrison, University of Richmond

Dr. Michael L. Monahan, Frostburg State University

Dr. Vijaya Narapareddy, University of Denver

Dr. Lori Radulovich, Baldwin-Wallace College

Dr. Deana M. Raffo, Middle Tennessee State University

Dr. Marlene Reed, Baylor University

Dr. Coleman R. Rich, Elon University

Dr. Gail J. Robin, Baker College

Dr. Amit J. Shah, Frostburg State University

Dr. Wayne E. Smith, Argosy University

Dr. Sharynn M. Tomlin, Angelo State University

Dr. Anne M. Walsh, La Salle University

Ralph I. Williams Jr., Middle Tennessee State University

ACKNOWLEDGMENTS xxv

I especially appreciate the wonderful work completed by the 14th edition ancillary authors as follows:

Case Instructor’s Manual —Forest R. David

Instructor’s Manual —Amit J. Shah

Test Bank—Maureen Steddin

PowerPoints —Brad Cox

Scores of Prentice Hall employees and salespersons have worked diligently behind the scenes to make this text a leader in strategic management. I appreciate the continued hard work of all those professionals, such as Sally Yagan, Kim Norbuta, Claudia Fernandes, and Ilene Kahn.

I also want to thank you, the reader, for investing the time and effort to read and study this text. It will help you formulate, implement, and evaluate strategies for any organization with which you become associated. I hope you come to share my enthusiasm for the rich subject area of strategic management and for the systematic learning approach taken in this text.

Finally, I want to welcome and invite your suggestions, ideas, thoughts, comments, and questions regarding any part of this text or the ancillary materials. Please call me at 910-612- 5343, e-mail me at [email protected], or write me at the School of Business, Francis Marion University, Florence, SC 29501. I sincerely appreciate and need your input to continu- ally improve this text in future editions. Your willingness to draw my attention to specific errors or deficiencies in coverage or exposition will especially be appreciated.

Thank you for using this text. Fred R. David

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About the Author

Dr. Fred R. David’s February 2011 Business Horizons article titled “What Are Business Schools Doing for Business Today?” is changing the way many busi- ness schools view their curricula. Dr. David is the sole author of two main- stream strategic-management textbooks: (1) Strategic Management: Concepts and Cases and (2)  Strategic-Management Concepts . These texts have been on a two-year revision cycle since 1986, when the first edition was published. These texts are among the best if not the best-selling strategic-management textbooks in the world and have been used at more than 500 colleges and universities, including Harvard University, Duke University, Carnegie-Mellon University, Johns Hopkins University, the University of Maryland, University of North Carolina, University of Georgia, San Francisco State University, University of South Carolina, and Wake Forest University.

This textbook has been translated and published in Chinese, Japanese, Farsi, Spanish, Indonesian, Indian, Thai, German, and Arabic and is widely used across Asia and South America. It is the best-selling strategic-management textbook in Mexico, China, Peru, Chile, and Japan, and is number two in the United States. Approximately 90,000 students read Dr. David’s textbook annually as well as thousands of businesspersons. The book has led the field of strategic management for more than a decade in providing an applica- tions/practitioner approach to the discipline.

A native of Whiteville, North Carolina, Fred David received a BS degree in math- ematics and an MBA from Wake Forest University before being employed as a bank man- ager with United Carolina Bank. He received a PhD in Business Administration from the University of South Carolina, where he majored in General Management with an emphasis in Strategic Management. Currently the TranSouth Professor of Strategic Management at Francis Marion University (FMU) in Florence, South Carolina, Dr. David has also taught at Auburn University, Mississippi State University, East Carolina University, the University of South Carolina, and the University of North Carolina at Pembroke. He is the author of 153 referred publications, including 41 journal articles and 56 proceedings publications. David has articles published in such journals as Academy of Management Review , Academy of Management Executive , Journal of Applied Psychology , Long Range Planning , and Advanced Management Journal.

Dr. David received a Lifetime Honorary Professorship Award from the Universidad Ricardo Palma in Lima, Peru. He delivered the keynote speech at the 21st Annual Latin American Congress on Strategy hosted by the Centrum School of Business in Peru. He has provided an eight-hour Strategic Planning Workshop to the faculty at Pontificia Universidad Catolica Del in Lima, Peru, and an eight-hour Case Writing/Analyzing Workshop to the faculty at Utah Valley State College in Orem, Utah. He has received numerous awards, including FMU’s Board of Trustees Research Scholar Award, the university’s Award for Excellence in Research given annually to the best faculty researcher on campus, and the Phil Carroll Advancement of Management Award, given annually by the Society for the Advancement of Management (SAM) to a management scholar for outstanding contributions in management research. Dr. David serves on the Board of Directors of SAM. He has given collegiate graduation commencement addresses several times at Troy University.

xxvii

xxviii CASE INFORMATION MATRIX

Case Company Stock Symbol

Headquarters City, State Web Site URL Address #Employees

Profits/ Revenues/%

(2010) (in millions)

WALT DISNEY CO. DIS Burbank, CA http://www.disney.go.com 149,000 3,963/38,063/10.4

SERVICE FIRMS

Movie/Music Streaming

1. Netflix, Inc. NFLX Los Gatos, CA http://www.netflix.com 2,500 160/2,162/7.4

2. Amazon.com, Inc. AMZN Seattle, WA http://www.amazon.com 33,700 1,152/34,204/3.3

Retail Drug Stores

3. CVS Caremark Corp. CVS Woonsocket, RI http://www.info.cvscaremark. com

200,000 3,424/96,413/3.5

4. Walgreen Co. WAG Deerfield, IL http://www.walgreens.com 177,000 2,091/67,420/3.1

Apparel Stores

5. V.F. Corp. VFC Greensboro, NC http://www.vfc.com 45,700 571/7,702/7.4

6. Gap, Inc. GPS San Francisco, CA http://www.gapinc.com 135,000 1,102/14,197/7.7

Office Supply Stores

7. Staples, Inc. SPLS Farmingham, MA http://www.staples.com 54,149 881/25,545/3.4

8. Office Depot, Inc. ODP Boca Raton, FL http://www.officedepot.com 41,000 34/11,633/0.3

Airlines

9. Southwest Airlines LUV Dallas, TX http://www.southwest.com 34,901 459/12,104/3.8

10. United Continental Holdings UAL Chicago, IL www.unitedcontinental holdings.com

86,000 253/23,229/.01

11. Ryanair Holdings, plc RYAAY Dublin, Ireland http://www.ryanair.ie 7,168 413/4,043/10.2

Cruise Lines

12. Royal Caribbean International RCL Miami, FL http://www.royalcaribbean.com 57,200 547/6,752/8.1

13. Carnival Corp. & plc CCL Miami, FL http://www.carnivalcorp.com 85,200 1,978/14,469/13.6

Financial Institutions

14. Bank of America BAC Charlotte, NC http://www.bankofamerica.com 286,951 –2,238/134,194/–1.6

15. E*TRADE Financial Corp. ETFC New York, NY http://www.etrade.com 2,962 –28/2,077/-.01

Telecommunications

16. Verizon Communications, Inc. VZ New York, NY http://www.verizon.com 194,400 2,549/106,565/2.4

Case Information Matrix

CASE INFORMATION MATRIX xxix

Case Company Stock Symbol

Headquarters City, State Web Site URL Address #Employees

Profits/ Revenues/%

(2010) (in millions)

MANUFACTURING FIRMS

Book Publishing

17. McGraw-Hill Companies, Inc. MHP New York, NY http://www.mcgraw-hill.com 21,000 828/6,168/13.4

Personal Care Products

18. Procter & Gamble Co. PG Cincinnati, OH http://www.pg.com 127,000 12,736/78,938/16.1

19. Estee Lauder Companies EL New York, NY http://www.elcompanies.com 31,200 478/7,795/6.1

20. Revlon, Inc. REV New York, NY http://www.revlon.com 4,800 327/1,321/24.7

Pharmaceuticals

21. Bristol-Meyers Squibb BMY New York, NY http://www.bms.com 28,000 3,102/19,484/15.9

22. Eli Lillys & Company LLY Indianapolis, IN http://www.lilly.com 38,350 5.069/23,076/21.9

Beverage

23. Dr Pepper Snapple Group, Inc.

DPS Plano, TX http://www.drpeppersnapple. com

19,000 528/5,636/9.4

24. Coca-Cola Co. COKE Charlotte, NC http://www.cokebottling.com 5,200 38/1,442/2.6

25. Starbucks Corp. SBUX Seattle, WA http://www.starbucks.com 137,000 945/10,707/8.8

Computers

26. Dell, Inc. DELL Round Rock, TX http://www.dell.com 94,300 2,635/61,494/4.3

27. Apple, Inc. AAPL Cupertino, CA http://www.apple.com 46,600 14,013/65,225/21.5

xxx CASE DESCRIPTION MATRIX

Case Description Matrix

Topical Content Areas (Y = Yes and N = No) 1 2 3 4 5 6 7 8 9 10 11 12 13 14

Cohesion Case: Walt Disney Company—2011 Y Y Y Y Y Y Y Y Y Y Y N N N

SERVICE FIRMS Movie/Music Streaming

1. Netflix, Inc. – 2011 Y Y Y N Y Y Y Y Y N N Y N N 2. Amazon.com, Inc. – 2011 Y Y Y Y Y Y Y Y Y N N N N N

Retail Drug Stores 3. CVS Caremark Corp. – 2011 Y Y Y Y Y Y Y Y Y Y Y Y N N

4. Walgreen Co. – 2011 Y Y Y Y Y Y Y Y Y N N Y N N

Apparel Stores 5. VF Corp. – 2011 Y Y Y Y Y Y Y Y Y N N Y N N

6. The Gap, Inc. – 2011 Y Y Y N Y Y Y Y Y N N N N N

Office Supply Stores

7. Staples, Inc. – 2011 Y Y Y Y Y Y Y Y Y N N Y N N 8. Office Depot, Inc. – 2011 Y Y Y Y Y Y Y Y Y Y Y Y N N

Airlines 9. Southwest Airlines Co. – 2011 Y Y Y Y Y N Y Y Y N N N N N

10. United Continental Holdings, Inc. – 2011 Y Y Y Y Y Y Y Y Y N N Y N N

11. Ryanair Holdings, plc – 2011 Y Y Y Y Y Y Y Y N N N Y N Y

Cruise Lines

12. Royal Caribbean Cruises Ltd. – 2011 Y Y Y Y Y Y Y Y Y N N N N N 13. Carnival Corp. and plc – 2011 Y Y Y Y Y Y Y Y Y N N N N N

Financial Institutions

14. Bank of America – 2011 Y Y Y Y Y N Y Y N Y Y Y N N 15. E*TRADE Financial Corp. – 2011 Y Y Y Y Y N Y Y Y Y Y Y N N

Telecommunications

16. Verizon Communications, Inc. – 2011 Y Y Y Y Y N Y Y N Y Y N N N

MANUFACTURING FIRMS Book Publishing

17. The McGraw-Hill Companies – 2011 Y Y Y Y Y Y Y Y Y N N Y N N Personal Care Products

18. Procter & Gamble Co. – 2011 Y Y Y Y Y N Y Y Y N Y N N Y 19. Estee Lauder Companies – 2011 Y Y Y Y N N Y Y Y N N Y N N

20. Revlon, Inc. – 2011 Y Y Y Y N N Y Y Y N N N N N

Pharmaceutical

21. Bristol-Meyers Squibb – 2011 Y Y Y Y Y N Y Y Y N N N N N 22. Eli Lilly & Company – 2011 Y Y Y Y Y N Y Y Y N N Y N N

Beverage

23. Dr Pepper Snapple Group, Inc. – 2011 Y Y Y N Y Y Y Y Y N Y Y N N 24. Coca-Cola Company – 2011 Y Y Y Y Y Y Y Y Y N N N N N

25. Starbucks Corp. – 2011 Y Y Y Y Y Y Y Y Y N N N N N

Computers

26. Dell, Inc. – 2011 Y Y Y Y Y N Y Y Y N N N N N 27. Apple, Inc. – 2011 Y Y Y Y Y N N Y Y N N N N N

1. Year-end 2010 Financial Statements Provided?

2. Organizational Chart Provided?

3. Does Company Do Business Outside the United States?

4. Is a Vision or Mission Statement Provided?

5. Business Ethics Issues Included?

6. Sustainability Issues Included?

7. Strategy Formulation Emphasis?

8. Strategy Implementation Emphasis?

9. By-Segment Financial Data Included?

10. Firm Has Declining Revenues?

11. Firm Has Declining Net Income?

12. Case Company Appears in Text for First Time Ever?

13. Case Company Appeared in Prior Edition and Updated Now?

14. Firm Headquartered Outside the United States?

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“Notable Quotes” “If we know where we are and something about how we got there, we might see where we are trending—and if the outcomes which lie natu- rally in our course are unacceptable, to make timely change.” —Abraham Lincoln

“Without a strategy, an organization is like a ship without a rudder, going around in circles. It’s like a tramp; it has no place to go.” —Joel Ross and Michael Kami

“Plans are less important than planning.” —Dale McConkey

“The formulation of strategy can develop com- petitive advantage only to the extent that the

process can give meaning to workers in the trenches.” —David Hurst

“Most of us fear change. Even when our minds say change is normal, our stomachs quiver at the prospect. But for strategists and managers today, there is no choice but to change.” —Robert Waterman Jr.

“If a man takes no thought about what is dis- tant, he will find sorrow near at hand. He who will not worry about what is far off will soon find something worse than worry.” —Confucius

“Integrity = Longevity” —Michael Johnson, CEO of Herbalife

Assurance of Learning Exercise 1A Compare Business Strategy With Military Strategy

Assurance of Learning Exercise 1B Gather Strategy Information

Assurance of Learning Exercise 1C Update the Walt Disney Cohesion Case

Assurance of Learning Exercise 1D Strategic Planning for My University

Assurance of Learning Exercise 1E Strategic Planning at a Local Company

Assurance of Learning Exercise 1F Get Familiar With SMCO

ChAptEr OBjECtivEs After studying this chapter, you should be able to do the following:

1. Describe the strategic-management process.

2. Explain the need for integrating analysis and intuition in strategic management.

3. Define and give examples of key terms in strategic management.

4. Discuss the nature of strategy formulation, implementation, and evaluation activities.

5. Describe the benefits of good strategic management.

6. Discuss the relevance of Sun Tzu’s The Art of War to strategic management.

7. Discuss how a firm may achieve sustained competitive advantage.

AssurAnCE OF LEArning ExErCisEs

pArt 1 OvErviEw OF strAtEgiC MAnAgEMEnt

The Nature of Strategic Management

1

4 Part 1 • Overview Of Strategic ManageMent

When CEOs from the big three American automakers, Ford, General Motors (GM), and Chrysler, showed up without a clear strategic plan to ask congressional leaders for bailout monies, they were sent home with instructions to develop a clear strategic plan for the future. Austan Goolsbee, one of President Obama’s top economic advisers, said, “Asking for a bailout without a convincing business plan was crazy.” Goolsbee also said, “If the three auto CEOs need a bridge, it’s got to be a bridge to somewhere, not a bridge to nowhere.”1 This textbook gives the instructions on how to develop a clear strategic plan—a bridge to somewhere rather than nowhere.

This chapter provides an overview of strategic management. It introduces a practical, in- tegrative model of the strategic-management process; it defines basic activities and terms in strategic management.

This chapter also introduces the notion of boxed inserts. A boxed insert at the beginning of each chapter reveals how some firms are doing really well competing in a weak global economy. The firms showcased are prospering as their rivals weaken. Each boxed insert examines the strategies of firms doing great amid high unemployment, rising interest rates, unavailability of credit, rising consumer demand, and intense price competition.

The boxed insert beginning each chapter showcases excellent strategic management. The first company featured for excellent performance is Winnebago Industries Inc.

Excellent Strategic Management Showcased

Winnebago industries inc.

Winnebago was recognized for the tenth consecutive year in 2011 as the nation’s top-selling motor home manufacturer. The recreational vehicle (RV) manufacturer has an excellent strategic plan. Winnebago posted an incredible 112 percent increase in revenues in fiscal 2010 and profits of $10.2 million.

Winnebago hired 350 new employees in the last twelve months as dealer inventory for its vehicles increased 21 percent. Winnebago dealers sold more Class A and Class C motor homes combined than any other manufacturer’s dealer group in calendar 2010, achieving 18.8 percent market share. The company recently became the top-selling Class A market leader for the first time since 1981, achieving a Class A market share for calendar 2010 of 19.5 percent compared to 16.6 percent the prior year. Winnebago’s Class A diesel market share was 15.2 percent in calendar 2010, up from 11.4 percent the prior year, while the company’s Class A gas market segment grew to 23.7 percent from 22.9 percent.

Despite high gas prices, shrinking consumer credit, rising raw ma- terial costs and stubborn high unemployment, Winnebago is success- fully offering new, innovative products and marketing its vehicles and trailers to all comers, but especially to retirees, who purchase an RV mainly to experience traveling and camping with fellow retirees. They enjoy camping with fellow RV-ers, grilling out, and in this way making new friends each day while traveling—rather than staying at a motel and meeting few to no new friends.

Based in Forest City, Iowa, Winnebago’s new CEO Randy Potts faces major competitors include Fleetwood, Coachman, and Thor Industries. Winnebago recently received the Quality Circle Award from the Recreation Vehicle Dealers Association—an award that the com- pany has received every year since 1996.

Winnebago’s Vice President of Sales and Marketing Roger Martin said in 2011: “We’re very pleased that Statistical Surveys once

again report Winnebago to be the number one manufac- turer of motor homes in the United States. We congratu- late our loyal e m p l o y e e s and our strong dealer network in achieving this top selling posi- tion for the tenth consecutive year. We work very hard to develop exciting new products and to provide support for our dealers and retail customers in the form of what we believe are industry-leading sales and service programs. We are pleased that these efforts have resulted in continued success in the retail market. We are particularly pleased with our market share performance in the Class A gas and diesel motor home market segments, due in part to the success of our new 2011 lineup featuring many innovative industry-exclusive features and floorplans.”

For the three months ending May 28, 2011, Winnebago’s rev- enues rose to $135.6 million from $134.8 million the prior year.

Source: Company documents. Also, Timothy Martin, “Winnebago Logs Another Profit,” Wall Street Journal, October 15, 2010, p. B6.

chaPter 1 • the nature Of Strategic ManageMent 5

Walt Disney is featured as the new Cohesion Case because it is a well-known global firm undergoing strategic change and is very well managed. By working through Walt Disney related Assurance of Learning Exercises at the end of each chapter, you will be well prepared to develop an effective strategic plan for any company assigned to you this semester. The end-of-chapter exercises apply chapter tools and concepts.

What Is Strategic Management? Once there were two company presidents who competed in the same industry. These two presidents decided to go on a camping trip to discuss a possible merger. They hiked deep into the woods. Suddenly, they came upon a grizzly bear that rose up on its hind legs and snarled. Instantly, the first president took off his knapsack and got out a pair of jogging shoes. The second president said, “Hey, you can’t outrun that bear.” The first president responded, “Maybe I can’t outrun that bear, but I surely can outrun you!” This story cap- tures the notion of strategic management, which is to achieve and maintain competitive advantage.

Defining Strategic Management Strategic management can be defined as the art and science of formulating, implementing, and evaluating cross-functional decisions that enable an organization to achieve its objectives. As this definition implies, strategic management focuses on integrating management, marketing, finance/ accounting, production/operations, research and development, and information systems to achieve organizational success. The term strategic management in this text is used synonymously with the term strategic planning. The latter term is more often used in the business world, whereas the former is often used in academia. Sometimes the term strategic management is used to refer to strategy formulation, implementation, and evaluation, with strategic planning referring only to strategy formulation. The purpose of strategic management is to exploit and create new and differ- ent opportunities for tomorrow; long-range planning, in contrast, tries to optimize for tomorrow the trends of today.

The term strategic planning originated in the 1950s and was very popular between the mid-1960s and the mid-1970s. During these years, strategic planning was widely believed to be the answer for all problems. At the time, much of corporate America was “obsessed” with strategic planning. Following that “boom,” however, strategic planning was cast aside dur- ing the 1980s as various planning models did not yield higher returns. The 1990s, however, brought the revival of strategic planning, and the process is widely practiced today in the busi- ness world.

A strategic plan is, in essence, a company’s game plan. Just as a football team needs a good game plan to have a chance for success, a company must have a good strategic plan to compete successfully. Profit margins among firms in most industries are so slim that there is little room for error in the overall strategic plan. A strategic plan results from tough mana- gerial choices among numerous good alternatives, and it signals commitment to specific markets, policies, procedures, and operations in lieu of other, “less desirable” courses of action.

The term strategic management is used at many colleges and universities as the title for the capstone course in business administration. This course integrates material from all business courses. The Strategic Management Club Online at www.strategyclub.com offers many benefits for strategic management students.

Stages of Strategic Management The strategic-management process consists of three stages: strategy formulation, strategy implementation, and strategy evaluation. Strategy formulation includes developing a vision and mission, identifying an organization’s external opportunities and threats, determining internal strengths and weaknesses, establishing long-term objectives, generating alternative strategies, and choosing particular strategies to pursue. Strategy-formulation issues include deciding what new businesses to enter, what businesses to abandon, how to allocate resources, whether to ex- pand operations or diversify, whether to enter international markets, whether to merge or form a joint venture, and how to avoid a hostile takeover.

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Because no organization has unlimited resources, strategists must decide which al- ternative strategies will benefit the firm most. Strategy-formulation decisions commit an organization to specific products, markets, resources, and technologies over an extended period of time. Strategies determine long-term competitive advantages. For better or worse, strategic decisions have major multifunctional consequences and enduring effects on an or- ganization. Top managers have the best perspective to understand fully the ramifications of strategy-formulation decisions; they have the authority to commit the resources necessary for implementation.

Strategy implementation requires a firm to establish annual objectives, devise policies, motivate employees, and allocate resources so that formulated strategies can be executed. Strategy implementation includes developing a strategy-supportive culture, creating an ef- fective organizational structure, redirecting marketing efforts, preparing budgets, developing and utilizing information systems, and linking employee compensation to organizational performance.

Strategy implementation often is called the “action stage” of strategic management. Implementing strategy means mobilizing employees and managers to put formulated strategies into action. Often considered to be the most difficult stage in strategic management, strategy implementation requires personal discipline, commitment, and sacrifice. Successful strategy implementation hinges upon managers’ ability to motivate employees, which is more an art than a science. Strategies formulated but not implemented serve no useful purpose.

Interpersonal skills are especially critical for successful strategy implementation. Strategy- implementation activities affect all employees and managers in an organization. Every division and department must decide on answers to questions such as “What must we do to implement our part of the organization’s strategy?” and “How best can we get the job done?” The challenge of implementation is to stimulate managers and employees throughout an organization to work with pride and enthusiasm toward achieving stated objectives.

Strategy evaluation is the final stage in strategic management. Managers desperately need to know when particular strategies are not working well; strategy evaluation is the primary means for obtaining this information. All strategies are subject to future modification because external and internal factors are constantly changing. Three fundamental strategy-evaluation ac- tivities are (1) reviewing external and internal factors that are the bases for current strategies, (2) measuring performance, and (3) taking corrective actions. Strategy evaluation is needed because success today is no guarantee of success tomorrow! Success always creates new and different problems; complacent organizations experience demise.

Strategy formulation, implementation, and evaluation activities occur at three hierarchical levels in a large organization: corporate, divisional or strategic business unit, and functional. By fostering communication and interaction among managers and employees across hierarchical levels, strategic management helps a firm function as a competitive team. Most small businesses and some large businesses do not have divisions or strategic business units; they have only the corporate and functional levels. Nevertheless, managers and employees at these two levels should be actively involved in strategic-management activities.

Peter Drucker says the prime task of strategic management is thinking through the overall mission of a business:

…that is, of asking the question, “What is our business?” This leads to the setting of objectives, the development of strategies, and the making of today’s decisions for tomor- row’s results. This clearly must be done by a part of the organization that can see the entire business; that can balance objectives and the needs of today against the needs of tomorrow; and that can allocate resources of men and money to key results.2

Integrating Intuition and Analysis Edward Deming once said, “In God we trust. All others bring data.” The strategic-management process can be described as an objective, logical, systematic approach for making major deci- sions in an organization. It attempts to organize qualitative and quantitative information in a way that allows effective decisions to be made under conditions of uncertainty. Yet strategic manage- ment is not a pure science that lends itself to a nice, neat, one-two-three approach.

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Based on past experiences, judgment, and feelings, most people recognize that intuition is essential to making good strategic decisions. Intuition is particularly useful for making deci- sions in situations of great uncertainty or little precedent. It is also helpful when highly interre- lated variables exist or when it is necessary to choose from several plausible alternatives. Some managers and owners of businesses profess to have extraordinary abilities for using intuition alone in devising brilliant strategies. For example, Will Durant, who organized GM, was de- scribed by Alfred Sloan as “a man who would proceed on a course of action guided solely, as far as I could tell, by some intuitive flash of brilliance. He never felt obliged to make an engi- neering hunt for the facts. Yet at times, he was astoundingly correct in his judgment.”3 Albert Einstein acknowledged the importance of intuition when he said, “I believe in intuition and inspiration. At times I feel certain that I am right while not knowing the reason. Imagination is more important than knowledge, because knowledge is limited, whereas imagination embraces the entire world.”4

Although some organizations today may survive and prosper because they have intuitive geniuses managing them, most are not so fortunate. Most organizations can benefit from strategic management, which is based upon integrating intuition and analysis in decision making. Choosing an intuitive or analytic approach to decision making is not an either–or proposition. Managers at all levels in an organization inject their intuition and judgment into strategic-management analyses. Analytical thinking and intuitive thinking complement each other.

Operating from the I’ve-already-made-up-my-mind-don’t-bother-me-with-the-facts mode is not management by intuition; it is management by ignorance.5 Drucker says, “I believe in intuition only if you discipline it. ‘Hunch’ artists, who make a diagnosis but don’t check it out with the facts, are the ones in medicine who kill people, and in management kill businesses.”6 As Henderson notes:

The accelerating rate of change today is producing a business world in which custom- ary managerial habits in organizations are increasingly inadequate. Experience alone was an adequate guide when changes could be made in small increments. But intuitive and experience-based management philosophies are grossly inadequate when decisions are strategic and have major, irreversible consequences.7

In a sense, the strategic-management process is an attempt both to duplicate what goes on in the mind of a brilliant, intuitive person who knows the business and to couple it with analysis.

Adapting to Change The strategic-management process is based on the belief that organizations should continually monitor internal and external events and trends so that timely changes can be made as needed. The rate and magnitude of changes that affect organizations are increasing dramatically, as evi- denced by how the global economic recession has caught so many firms by surprise. Firms, like organisms, must be “adept at adapting” or they will not survive.

For 30 years, Lowe’s Company and Home Depot Inc. have been and remain fierce competi- tors trying to adapt better than the other to changing consumer needs. Home Depot is the larger firm and is reporting faster growing revenues and profits, but Lowe’s CEO Robert Niblock says his company is moving quickly to showcase tools and appliances on the Internet as expertly as in stores. Lowe’s revenues are about $49 billion annually compared to Home Depot’s $68 billion. Home Depot’s CEO Frank Blake has recently added 19 centralized distribution centers so store workers can spend more time waiting on shoppers. Both firms are hiring thousands of part-time workers, transitioning away from full-time employees, to keep labor costs down and create a price competitive advantage.

The second-largest bookstore chain in the United States, Borders Group, declared bank- ruptcy in 2011 as the firm had not adapted well to changes in book retailing from traditional bookstore shopping to customers buying online, preferring digital books to hard copies, and even renting rather than buying books. Borders is second in number of stores behind Barnes & Noble, which also is struggling to survive in an industry rapidly going digital and moving away from brick-and-mortar stores. Based in Ann Arbor, Michigan, Borders Group operates 676 stores nationwide, but was on the brink of financial collapse before being acquired in July 2011 by Direct Brands, a division of Phoenix, Arizona–based Najafi Companies.

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To survive, all organizations must astutely identify and adapt to change. The strategic- management process is aimed at allowing organizations to adapt effectively to change over the long run. As Waterman has noted:

In today’s business environment, more than in any preceding era, the only constant is change. Successful organizations effectively manage change, continuously adapting their bureaucracies, strategies, systems, products, and cultures to survive the shocks and prosper from the forces that decimate the competition.8

Online social networking, rising food prices, and high energy prices are external changes that are transforming business and society today. On a political map, the boundaries between countries may be clear, but on a competitive map showing the real flow of financial and industrial activity, the boundaries have largely disappeared. The speedy flow of information has eaten away at na- tional boundaries so that people worldwide readily see for themselves how other people live and work. We have become a borderless world with global citizens, global competitors, global custom- ers, global suppliers, and global distributors! U.S. firms are challenged by large rival companies in many industries. To say U.S. firms are being challenged in the automobile industry is an under- statement. But this situation is true in many industries.

The need to adapt to change leads organizations to key strategic-management questions, such as “What kind of business should we become?” “Are we in the right field(s)?” “Should we reshape our business?” “What new competitors are entering our industry?” “What strategies should we pursue?” “How are our customers changing?” “Are new technologies being devel- oped that could put us out of business?”

The Internet has changed the way we organize our lives; inhabit our homes; and relate to and interact with family, friends, neighbors, and even ourselves. The Internet promotes endless comparison shopping, which thus enables consumers worldwide to band together to demand dis- counts. The Internet has transferred power from businesses to individuals. Buyers used to face big obstacles when attempting to get the best price and service, such as limited time and data to compare, but now consumers can quickly scan hundreds of vendor offerings. Both the number of people shopping online and the average amount they spend is increasing dramatically. Digital communication has become the name of the game in marketing. Consumers today are flocking to blogs, short-post forums such as Twitter, video sites such as YouTube, and social networking sites such as Facebook, Myspace, and LinkedIn instead of television, radio, newspapers, and magazines. Facebook and Myspace recently unveiled features that further marry these social sites to the wider Internet. Users on these social sites now can log on to many business shopping sites with their IDs from their social site so their friends can see what items they have purchased on various shopping sites. Both of these social sites want their members to use their IDs to man- age all their online identities. Most traditional retailers have learned that their online sales can boost in-store sales as they utilize their websites to promote in-store promotions.

Key Terms in Strategic Management Before we further discuss strategic management, we should define nine key terms: competitive advantage, strategists, vision and mission statements, external opportunities and threats, internal strengths and weaknesses, long-term objectives, strategies, annual objectives, and policies.

Competitive Advantage Strategic management is all about gaining and maintaining competitive advantage. This term can be defined as “anything that a firm does especially well compared to rival firms.” When a firm can do something that rival firms cannot do, or owns something that rival firms desire, that can represent a competitive advantage. For example, having ample cash on the firm’s balance sheet can provide a major competitive advantage. Some cash-rich firms are buying distressed rivals. For example, Dish Network Corp. in mid-2011 acquired (for $1 billion) the satellite com- pany DBSD North America based in Reston, Virginia, which was operating under bankruptcy protection. The acquisition gave Dish Network access to varied broadband spectrums. Dish Network is also trying to acquire bankrupt satellite operator Terrestar Networks, which would allow Dish Network to launch mobile video or satellite Internet services.

chaPter 1 • the nature Of Strategic ManageMent 9

Having less fixed assets than rival firms also can provide major competitive advantages in a global recession. For example, Apple has no manufacturing facilities of its own, and rival Sony has 57 electronics factories. Apple relies exclusively on contract manufacturers for production of all of its products, whereas Sony owns its own plants. Less fixed assets has enabled Apple to remain financially lean with virtually no long-term debt. Sony, in contrast, has built up massive debt on its balance sheet.

CEO Paco Underhill of Envirosell says, “Where it used to be a polite war, it’s now a 21st- century bar fight, where everybody is competing with everyone else for the customers’ money.” Shoppers are “trading down,” so Nordstrom is taking customers from Neiman Marcus and Saks Fifth Avenue, T.J. Maxx and Marshalls are taking customers from most other stores in the mall, and Family Dollar is taking revenues from Wal-Mart.9 Getting and keeping competitive advan- tage is essential for long-term success in an organization. In mass retailing, big-box companies such as Wal-Mart, Best Buy, and Sears are losing competitive advantage to smaller stores, so there is a dramatic shift in mass retailing to becoming smaller. For example, Best Buy opened 150 of its small-format Best Buy Mobile stores in 2011. Home Depot is selling off portions of its parking lots to fast-food chains and auto repair shops. Sears in Greensboro, North Carolina, just leased 34,000 square feet of its space to Whole Foods Market, which is set to open in 2012. As customers shift more to online purchases, less brick and mortar is definitely better for sustaining competitive advantage in retailing. Even Wal-Mart began in mid-2011 to open Wal-Mart Express stores of less than 40,000 square feet each, rather than 185,000-square-foot Supercenters. Office Depot’s new 5,000-square-foot stores are dramatically smaller than their traditional stores.

Normally, a firm can sustain a competitive advantage for only a certain period due to rival firms imitating and undermining that advantage. Thus it is not adequate to simply obtain competitive ad- vantage. A firm must strive to achieve sustained competitive advantage by (1) continually adapting to changes in external trends and events and internal capabilities, competencies, and resources; and by (2) effectively formulating, implementing, and evaluating strategies that capitalize upon those factors.

An increasing number of companies are gaining a competitive advantage by using the Internet for direct selling and for communication with suppliers, customers, creditors, partners, shareholders, clients, and competitors who may be dispersed globally. E-commerce allows firms to sell products, advertise, purchase supplies, bypass intermediaries, track inventory, eliminate paperwork, and share information. In total, e-commerce is minimizing the expense and cumber- someness of time, distance, and space in doing business, thus yielding better customer service, greater efficiency, improved products, and higher profitability.

The social network company Myspace was acquired in June 2011 by Specific Media based in Irvine, California. Previously owned by Beverly Hills-based News Corp., Myspace is being battered by the rapid rise of rival Facebook. Myspace’s customer base dropped to 80 million at the start of 2011 from well over 100 million a year earlier, while Facebook customers at the same time numbered 500 million, up from about 350 million. Analyst Jeremiah Owyang at mar- ket research firm Altimeter Group said: “The end was in sight for Myspace before former CEO Chris DeWolfe left. The company did not innovate for years, while Facebook did. It comes down to culture and leadership. Myspace did not evolve its business model. It stuck with its young demographic, and made minimal changes until it was too late.”10

Strategists Strategists are the individuals who are most responsible for the success or failure of an organiza- tion. Strategists have various job titles, such as chief executive officer, president, owner, chair of the board, executive director, chancellor, dean, or entrepreneur. Jay Conger, professor of organi- zational behavior at the London Business School and author of Building Leaders, says, “All strat- egists have to be chief learning officers. We are in an extended period of change. If our leaders aren’t highly adaptive and great models during this period, then our companies won’t adapt either, because ultimately leadership is about being a role model.”

Strategists help an organization gather, analyze, and organize information. They track industry and competitive trends, develop forecasting models and scenario analyses, evaluate corporate and divisional performance, spot emerging market opportunities, identify business threats, and develop creative action plans. Strategic planners usually serve in a support or staff role. Usually found in higher levels of management, they typically have considerable author- ity for decision making in the firm. The CEO is the most visible and critical strategic manager. Any manager who has responsibility for a unit or division, responsibility for profit and loss out-

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comes, or direct authority over a major piece of the business is a strategic manager (strategist). In the last five years, the position of chief strategy officer (CSO) has emerged as a new addition to the top management ranks of many organizations, including Sun Microsystems, Network Associates, Clarus, Lante, Marimba, Sapient, Commerce One, BBDO, Cadbury Schweppes, General Motors, Ellie Mae, Cendant, Charles Schwab, Tyco, Campbell Soup, Morgan Stanley, and Reed-Elsevier. This corporate officer title represents recognition of the growing importance of strategic planning in business. Franz Koch, the CSO of German sportswear company Puma AG, was promoted to CEO of Puma in mid-2011. When asked about his plans for the company, Mr. Koch said on a conference call “I plan to just focus on the long-term strategic plan.”

Strategists differ as much as organizations themselves, and these differences must be con- sidered in the formulation, implementation, and evaluation of strategies. Some strategists will not consider some types of strategies because of their personal philosophies. Strategists differ in their attitudes, values, ethics, willingness to take risks, concern for social responsibility, concern for profitability, concern for short-run versus long-run aims, and management style. The founder of Hershey Foods, Milton Hershey, built the company to manage an orphanage. From corporate profits, Hershey Foods today cares for over a thousand boys and girls in its School for Orphans.

Vision and Mission Statements Many organizations today develop a vision statement that answers the question “What do we want to become?” Developing a vision statement is often considered the first step in strategic planning, preceding even development of a mission statement. Many vision statements are a single sentence. For example, the vision statement of Stokes Eye Clinic in Florence, South Carolina, is “Our vision is to take care of your vision.”

Mission statements are “enduring statements of purpose that distinguish one business from other similar firms. A mission statement identifies the scope of a firm’s operations in product and market terms.”11 It addresses the basic question that faces all strategists: “What is our business?” A clear mission statement describes the values and priorities of an organization. Developing a mission statement compels strategists to think about the nature and scope of present operations and to assess the potential attractiveness of future markets and activities. A mission statement broadly charts the future direction of an organization. A mission statement is a constant reminder to its employees of why the organization exists and what the founders envisioned when they put their fame and fortune at risk to breathe life into their dreams.

External Opportunities and Threats External opportunities and external threats refer to economic, social, cultural, demographic, environmental, political, legal, governmental, technological, and competitive trends and events that could significantly benefit or harm an organization in the future. Opportunities and threats are largely beyond the control of a single organization—thus the word external. A few opportu- nities and threats that face many firms are listed here:

• Availability of capital can no longer be taken for granted. • Consumers expect green operations and products. • Marketing moving rapidly to the Internet. • Commodity food prices are increasing. • Political unrest in the Middle East is raising oil prices. • Computer hacker problems are increasing. • Intense price competition is plaguing most firms. • Unemployment and underemployment rates remain high. • Interest rates are rising. • Product life cycles are becoming shorter. • State and local governments are financially weak. • Turmoil and violence in Mexico is increasing. • Winters are colder and summers hotter than usual. • Home prices remain exceptionally low. • Global markets offer the highest growth in revenues.

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The types of changes mentioned above are creating a different type of consumer and con- sequently a need for different types of products, services, and strategies. Many companies in many industries face the severe external threat of online sales capturing increasing market share in their industry.

Other opportunities and threats may include the passage of a law, the introduction of a new product by a competitor, a national catastrophe, or the declining value of the dollar. A competi- tor’s strength could be a threat. Unrest in the Middle East, rising energy costs, or social media networking could represent an opportunity or a threat.

A basic tenet of strategic management is that firms need to formulate strategies to take ad- vantage of external opportunities and to avoid or reduce the impact of external threats. For this reason, identifying, monitoring, and evaluating external opportunities and threats are essential for success. This process of conducting research and gathering and assimilating external infor- mation is sometimes called environmental scanning or industry analysis. Lobbying is one activ- ity that some organizations utilize to influence external opportunities and threats.

Internal Strengths and Weaknesses Internal strengths and internal weaknesses are an organization’s controllable activities that are performed especially well or poorly. They arise in the management, marketing, finance/accounting, production/operations, research and development, and management information systems activities of a business. Identifying and evaluating organizational strengths and weaknesses in the functional areas of a business is an essential strategic-management activity. Organizations strive to pursue strategies that capitalize on internal strengths and eliminate internal weaknesses.

Strengths and weaknesses are determined relative to competitors. Relative deficiency or supe- riority is important information. Also, strengths and weaknesses can be determined by elements of being rather than performance. For example, a strength may involve ownership of natural resources or a historic reputation for quality. Strengths and weaknesses may be determined relative to a firm’s own objectives. For example, high levels of inventory turnover may not be a strength to a firm that seeks never to stock-out.

Internal factors can be determined in a number of ways, including computing ratios, mea- suring performance, and comparing to past periods and industry averages. Various types of surveys also can be developed and administered to examine internal factors such as employee morale, production efficiency, advertising effectiveness, and customer loyalty.

Long-Term Objectives Objectives can be defined as specific results that an organization seeks to achieve in pursuing its basic mission. Long-term means more than one year. Objectives are essential for organizational success because they state direction; aid in evaluation; create synergy; reveal priorities; focus coordination; and provide a basis for effective planning, organizing, motivating, and controlling activities. Objectives should be challenging, measurable, consistent, reasonable, and clear. In a mul- tidimensional firm, objectives should be established for the overall company and for each division.

Strategies Strategies are the means by which long-term objectives will be achieved. Business strategies may include geographic expansion, diversification, acquisition, product development, market penetration, retrenchment, divestiture, liquidation, and joint ventures. Strategies currently being pursued by some companies are described in Table 1-1.

Strategies are potential actions that require top management decisions and large amounts of the firm’s resources. In addition, strategies affect an organization’s long-term prosperity, typically for at least five years, and thus are future-oriented. Strategies have multifunctional or multidivisional con- sequences and require consideration of both the external and internal factors facing the firm.

Annual Objectives Annual objectives are short-term milestones that organizations must achieve to reach long-term objectives. Like long-term objectives, annual objectives should be measurable, quantitative, challenging, realistic, consistent, and prioritized. They should be established at the corporate, divisional, and functional levels in a large organization. Annual objectives should be stated in terms of management, marketing, finance/accounting, production/operations, research and

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development, and management information systems (MIS) accomplishments. A set of annual objectives is needed for each long-term objective. Annual objectives are especially important in strategy implementation, whereas long-term objectives are particularly important in strategy formulation. Annual objectives represent the basis for allocating resources.

Policies Policies are the means by which annual objectives will be achieved. Policies include guidelines, rules, and procedures established to support efforts to achieve stated objectives. Policies are guides to decision making and address repetitive or recurring situations.

Policies are most often stated in terms of management, marketing, finance/accounting, production/operations, research and development, and MIS activities. Policies can be established at the corporate level and apply to an entire organization at the divisional level and apply to a sin- gle division, or they can be established at the functional level and apply to particular operational activities or departments. Policies, like annual objectives, are especially important in strategy implementation because they outline an organization’s expectations of its employees and manag- ers. Policies allow consistency and coordination within and between organizational departments.

Substantial research suggests that a healthier workforce can more effectively and efficiently implement strategies. Smoking has become a heavy burden for Europe’s state-run social welfare systems, with smoking-related diseases costing well over $100 billion a year. Smoking also is a huge burden on companies worldwide, so firms are continually implementing policies to curtail smoking. Table 1-2 gives a ranking of some countries by percentage of people who smoke.

Hotel/motels in the United States are rapidly going “smoke-free throughout” with more than 13,000 now having this policy. The American Hotel and Lodging Association says there are 50,800

Table 1-1 Sample Strategies in Action in 2011

Skype

Headquartered in Luxembourg and acquired by Microsoft Corporation in 2011, Skype offers software ap- plications that enable users to make voice calls over the Internet as well as video conferencing, instant mes- saging, and file transfer. Wildly popular among people who regularly make international calls, Skype audio conferences support up to 25 people at a time, including the host. Skype 3.0, recently released for Apple’s iOS platform, offers video chat for the iPhone, iPad, and iPod Touch devices. Skype recently acquired Qik, a mobile video streaming and storage company, and partnered with Sony and Panasonic to create Skype- ready Blu-ray players. Skype now accounts for more than 25 percent of all international calls, up from 13 percent in 2009. The mobile-based video call market is expected to exceed $1 billion by 2015.

Sbarro Inc.

The fast-food Italian eatery located in many mall food courts around the world is struggling to survive and swamped in debt. Based in Melville, New York, Sbarro is closing weak stores among its 1,000 total in 40 countries, including Qatar, Egypt, and New Zealand. Sbarro has hired bankruptcy and restructuring lawyers to help the firm survive as many consumers have switched, for various reasons, to other mall fast food choices, such as Chick-fil-A. Sbarro needs a clear strategic plan to survive.

Target Corp.

The Minneapolis-based mass retailer expanded into Canada for the first time in 2012, converting about 150 of its acquired Zellers stores into Target stores. With 1,752 stores in the United States, Target is a latecomer to Canada; Wal-Mart and Sears have been in Canada for years. Most of Target’s new Canadian stores will be in highly urban areas such as Vancouver, Montreal, Ottawa, Edmonton, and Calgary. Reportedly about 70 percent of Canadians are already familiar with the Target brand.

caesars entertainment

Formerly named Harrah’s Entertainment, this gaming company for the first time ever is establishing noncasino hotels in Asia, following in the footsteps of its major competitor MGM Resorts International. Both firms are shut out from gaining gambling licenses to operate in Macau and Singapore. Since the U.S. gaming market remains sluggish, Caesars is anxious to take advantage of high growth in China, India, and Vietnam. Caesars plans initially to “manage rather than own” the hotels that soon will use its brand name across Asia.

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hotel/motels in the United States with 15 or more rooms. All Marriotts are now nonsmoking. Almost all car rental companies are exclusively nonsmoking, including Avis, Dollar, Thrifty, and Budget. These four rental car companies charge a $250 cleaning fee if a customer smokes in their rental vehicle.

The Strategic-Management Model The strategic-management process can best be studied and applied using a model. Every model represents some kind of process. The framework illustrated in Figure 1-1 is a widely accepted, com- prehensive model of the strategic-management process.12 This model does not guarantee success, but it does represent a clear and practical approach for formulating, implementing, and evaluating strate- gies. Relationships among major components of the strategic-management process are shown in the model, which appears in all subsequent chapters with appropriate areas shaped to show the particular focus of each chapter. These are three important questions to answer in developing a strategic plan:

Where are we now?

Where do we want to go?

How are we going to get there?

Identifying an organization’s existing vision, mission, objectives, and strategies is the logi- cal starting point for strategic management because a firm’s present situation and condition may preclude certain strategies and may even dictate a particular course of action. Every organiza- tion has a vision, mission, objectives, and strategy, even if these elements are not consciously designed, written, or communicated. The answer to where an organization is going can be deter- mined largely by where the organization has been!

The strategic-management process is dynamic and continuous. A change in any one of the major components in the model can necessitate a change in any or all of the other components. For instance, third-world countries coming online could represent a major opportunity and re- quire a change in long-term objectives and strategies; a failure to accomplish annual objectives could require a change in policy; or a major competitor’s change in strategy could require a change in the firm’s mission. Therefore, strategy formulation, implementation, and evaluation activities should be performed on a continual basis, not just at the end of the year or semiannu- ally. The strategic-management process never really ends.

Note in the strategic-management model that business ethics/social responsibility/ environmental sustainability issues impact all activities in the model as described in full in Chapter 10. Also, note in the model that global/international issues also impact virtually all stra- tegic decisions today, as described in detail in Chapter 11.

Table 1-2 Percentage of People Who Smoke in Selected Countries

Country Percentage

Greece 50

Russia High

Austria

Spain

U.K.

France

Germany

Italy

Belgium

Switzerland Low

USA 19

Source: Based on Christina Passariello, “Smoking Culture Persists in Europe, Despite Bans,” Wall Street Journal, January 2, 2009, A5.

14 Part 1 • Overview Of Strategic ManageMent

The strategic-management process is not as cleanly divided and neatly performed in practice as the strategic-management model suggests. Strategists do not go through the process in lockstep fashion. Generally, there is give-and-take among hierarchical levels of an organization. Many organizations semiannually conduct formal meetings to discuss and update the firm’s vision/ mission, opportunities/threats, strengths/weaknesses, strategies, objectives, policies, and perfor- mance. These meetings are commonly held off-premises and are called retreats. The rationale for periodically conducting strategic-management meetings away from the work site is to encourage more creativity and candor from participants. Good communication and feedback are needed throughout the strategic-management process.

Application of the strategic-management process is typically more formal in larger and well- established organizations. Formality refers to the extent that participants, responsibilities, authority, duties, and approach are specified. Smaller businesses tend to be less formal. Firms that compete in complex, rapidly changing environments, such as technology companies, tend to be more formal in strategic planning. Firms that have many divisions, products, markets, and technologies also tend to be more formal in applying strategic-management concepts. Greater formality in applying the strategic-management process is usually positively associated with the cost, comprehensiveness, accuracy, and success of planning across all types and sizes of organizations.13

Figure 1-1

a Comprehensive Strategic-Management Model

Strategy Formulation

Strategy Implementation

Strategy Evaluation

Chapter 10: Business Ethics, Social Responsibility, and Environmental Sustainability

Chapter 11: Global/International Issues

Measure and Evaluate Performance

Chapter 9

Implement Strategies— Marketing,

Finance, Accounting, R&D,

and MIS Issues Chapter 8

Implement Strategies—

Management Issues

Chapter 7

Perform External Audit

Chapter 3

Develop Vision and Mission Statements Chapter 2

Establish Long-Term Objectives Chapter 5

Generate, Evaluate, and Select Strategies Chapter 6

Perform Internal Audit

Chapter 4

Source: Fred R. David,“How Companies Define Their Mission,” Long Range Planning 22, no. 3 (June 1988): 40.

chaPter 1 • the nature Of Strategic ManageMent 15

Benefits of Strategic Management Strategic management allows an organization to be more proactive than reactive in shaping its own future; it allows an organization to initiate and influence (rather than just respond to) activities— and thus to exert control over its own destiny. Small business owners, chief executive officers, presidents, and managers of many for-profit and nonprofit organizations have recognized and real- ized the benefits of strategic management.

Historically, the principal benefit of strategic management has been to help organizations formulate better strategies through the use of a more systematic, logical, and rational approach to strategic choice. This certainly continues to be a major benefit of strategic management, but research studies now indicate that the process, rather than the decision or document, is the more important contribution of strategic management.14 Communication is a key to successful strategic manage- ment. Through involvement in the process, in other words, through dialogue and participation, man- agers and employees become committed to supporting the organization. Figure 1-2 illustrates this intrinsic benefit of a firm engaging in strategic planning. Note that all firms need all employees on a mission to help the firm succeed.

The manner in which strategic management is carried out is thus exceptionally important. A major aim of the process is to achieve the understanding of and commitment from all managers and employees. Understanding may be the most important benefit of strategic management, followed by commitment. When managers and employees understand what the organization is doing and why, they often feel they are a part of the firm and become committed to assisting it. This is especially true when employees also understand linkages between their own compensation and organizational performance. Managers and employees become surprisingly creative and innovative when they un- derstand and support the firm’s mission, objectives, and strategies. A great benefit of strategic man- agement, then, is the opportunity that the process provides to empower individuals. Empowerment is the act of strengthening employees’ sense of effectiveness by encouraging them to participate in decision making and to exercise initiative and imagination, and rewarding them for doing so.

Strategic planning is a learning, helping, educating, and supporting process, not merely a paper-shuffling activity among top executives. Strategic-management dialogue is more impor- tant than a nicely bound strategic-management document.15 The worst thing strategists can do is develop strategic plans themselves and then present them to operating managers to execute. Through involvement in the process, line managers become “owners” of the strategy. Ownership of strategies by the people who have to execute them is a key to success!

Although making good strategic decisions is the major responsibility of an organization’s owner or chief executive officer, both managers and employees must also be involved in strategy formulation, implementation, and evaluation activities. Participation is a key to gaining commit- ment for needed changes.

An increasing number of corporations and institutions are using strategic management to make effective decisions. But strategic management is not a guarantee for success; it can be dys- functional if conducted haphazardly.

Financial Benefits Research indicates that organizations that use strategic-management concepts are more profitable and successful than those that do not.16 Businesses using strategic-management concepts show sig- nificant improvement in sales, profitability, and productivity compared to firms without systematic

Figure 1-2

benefits to a Firm That Does Strategic Planning

a. Dialogue b. Participation

Enhanced Communication

Deeper/Improved Understanding

a. Of others’ views b. Of what the firm is doing/planning and why

THE RESULT

All Managers and Employees on a Mission to Help the Firm Succeed

Greater Commitment

a. To achieve objectives b. To implement strategies c. To work hard

16 Part 1 • Overview Of Strategic ManageMent

planning activities. High-performing firms tend to do systematic planning to prepare for future fluc- tuations in their external and internal environments. Firms with planning systems more closely re- sembling strategic-management theory generally exhibit superior long-term financial performance relative to their industry.

High-performing firms seem to make more informed decisions with good anticipation of both short- and long-term consequences. In contrast, firms that perform poorly often engage in activities that are shortsighted and do not reflect good forecasting of future conditions. Strategists of low-performing organizations are often preoccupied with solving internal problems and meet- ing paperwork deadlines. They typically underestimate their competitors’ strengths and overesti- mate their own firm’s strengths. They often attribute weak performance to uncontrollable factors such as a poor economy, technological change, or foreign competition.

More than 100,000 businesses in the United States fail annually. Business failures include bankruptcies, foreclosures, liquidations, and court-mandated receiverships. Although many factors besides a lack of effective strategic management can lead to business failure, the planning concepts and tools described in this text can yield substantial financial benefits for any organization.

Nonfinancial Benefits Besides helping firms avoid financial demise, strategic management offers other tangible benefits, such as an enhanced awareness of external threats, an improved understanding of competitors’ strategies, increased employee productivity, reduced resistance to change, and a clearer under- standing of performance–reward relationships. Strategic management enhances the problem- prevention capabilities of organizations because it promotes interaction among managers at all divisional and functional levels. Firms that have nurtured their managers and employees, shared organizational objectives with them, empowered them to help improve the product or service, and recognized their contributions can turn to them for help in a pinch because of this interaction.

In addition to empowering managers and employees, strategic management often brings order and discipline to an otherwise floundering firm. It can be the beginning of an efficient and effective managerial system. Strategic management may renew confidence in the current business strategy or point to the need for corrective actions. The strategic-management process provides a basis for identifying and rationalizing the need for change to all managers and employees of a firm; it helps them view change as an opportunity rather than as a threat.

Greenley stated that strategic management offers the following benefits:

1. It allows for identification, prioritization, and exploitation of opportunities. 2. It provides an objective view of management problems. 3. It represents a framework for improved coordination and control of activities. 4. It minimizes the effects of adverse conditions and changes. 5. It allows major decisions to better support established objectives. 6. It allows more effective allocation of time and resources to identified opportunities. 7. It allows fewer resources and less time to be devoted to correcting erroneous or ad hoc

decisions. 8. It creates a framework for internal communication among personnel. 9. It helps integrate the behavior of individuals into a total effort. 10. It provides a basis for clarifying individual responsibilities. 11. It encourages forward thinking. 12. It provides a cooperative, integrated, and enthusiastic approach to tackling problems

and opportunities. 13. It encourages a favorable attitude toward change. 14. It gives a degree of discipline and formality to the management of a business.17

Why Some Firms Do No Strategic Planning Some firms do not engage in strategic planning, and some firms do strategic planning but receive no support from managers and employees. Some reasons for poor or no strategic planning are as follows:

• Lack of knowledge or experience in strategic planning—No training in strategic planning. • Poor reward structures—When an organization assumes success, it often fails to reward

success. When failure occurs, then the firm may punish.

chaPter 1 • the nature Of Strategic ManageMent 17

• Firefighting—An organization can be so deeply embroiled in resolving crises and fire- fighting that it reserves no time for planning.

• Waste of time—Some firms see planning as a waste of time because no marketable product is produced. Time spent on planning is an investment.

• Too expensive—Some organizations see planning as too expensive in time and money. • Laziness—People may not want to put forth the effort needed to formulate a plan. • Content with success—Particularly if a firm is successful, individuals may feel there is no

need to plan because things are fine as they stand. But success today does not guarantee success tomorrow.

• Fear of failure—By not taking action, there is little risk of failure unless a problem is urgent and pressing. Whenever something worthwhile is attempted, there is some risk of failure.

• Overconfidence—As managers amass experience, they may rely less on formalized planning. Rarely, however, is this appropriate. Being overconfident or overestimat- ing experience can bring demise. Forethought is rarely wasted and is often the mark of professionalism.

• Prior bad experience—People may have had a previous bad experience with planning, that is, cases in which plans have been long, cumbersome, impractical, or inflexible. Planning, like anything else, can be done badly.

• Self-interest—When someone has achieved status, privilege, or self-esteem through effec- tively using an old system, he or she often sees a new plan as a threat.

• Fear of the unknown—People may be uncertain of their abilities to learn new skills, of their aptitude with new systems, or of their ability to take on new roles.

• Honest difference of opinion—People may sincerely believe the plan is wrong. They may view the situation from a different viewpoint, or they may have aspirations for themselves or the organization that are different from the plan. Different people in different jobs have different perceptions of a situation.

• Suspicion—Employees may not trust management.18

Pitfalls in Strategic Planning Strategic planning is an involved, intricate, and complex process that takes an organization into uncharted territory. It does not provide a ready-to-use prescription for success; instead, it takes the organization through a journey and offers a framework for addressing questions and solving problems. Being aware of potential pitfalls and being prepared to address them is essential to success.

Some pitfalls to watch for and avoid in strategic planning are these:

• Using strategic planning to gain control over decisions and resources • Doing strategic planning only to satisfy accreditation or regulatory requirements • Too hastily moving from mission development to strategy formulation • Failing to communicate the plan to employees, who continue working in the dark • Top managers making many intuitive decisions that conflict with the formal plan • Top managers not actively supporting the strategic-planning process • Failing to use plans as a standard for measuring performance • Delegating planning to a “planner” rather than involving all managers • Failing to involve key employees in all phases of planning • Failing to create a collaborative climate supportive of change • Viewing planning as unnecessary or unimportant • Becoming so engrossed in current problems that insufficient or no planning is done • Being so formal in planning that flexibility and creativity are stifled19

Guidelines for Effective Strategic Management Failing to follow certain guidelines in conducting strategic management can foster criticisms of the process and create problems for the organization. Issues such as “Is strategic management in our firm a people process or a paper process?” should be addressed.

18 Part 1 • Overview Of Strategic ManageMent

Even the most technically perfect strategic plan will serve little purpose if it is not imple- mented. Many organizations tend to spend an inordinate amount of time, money, and effort on developing the strategic plan, treating the means and circumstances under which it will be implemented as afterthoughts! Change comes through implementation and evaluation, not through the plan. A technically imperfect plan that is implemented well will achieve more than the perfect plan that never gets off the paper on which it is typed.20

Strategic management must not become a self-perpetuating bureaucratic mechanism. Rather, it must be a self-reflective learning process that familiarizes managers and employees in the organization with key strategic issues and feasible alternatives for resolving those issues. Strategic management must not become ritualistic, stilted, orchestrated, or too formal, predict- able, and rigid. Words supported by numbers, rather than numbers supported by words, should represent the medium for explaining strategic issues and organizational responses. A key role of strategists is to facilitate continuous organizational learning and change.

R. T. Lenz offered some important guidelines for effective strategic management:

Keep the strategic-management process as simple and nonroutine as possible. Eliminate jargon and arcane planning language. Remember, strategic management is a process for fostering learning and action, not merely a formal system for control. To avoid routin- ized behavior, vary assignments, team membership, meeting formats, and the planning calendar. The process should not be totally predictable, and settings must be changed to stimulate creativity. Emphasize word-oriented plans with numbers as back-up material. If managers cannot express their strategy in a paragraph or so, they either do not have one or do not understand it. Stimulate thinking and action that challenge the assumptions underlying current corporate strategy. Welcome bad news. If strategy is not working, managers desperately need to know it. Further, no pertinent information should be classi- fied as inadmissible merely because it cannot be quantified. Build a corporate culture in which the role of strategic management and its essential purposes are understood. Do not permit “technicians” to co-opt the process. It is ultimately a process for learning and ac- tion. Speak of it in these terms. Attend to psychological, social, and political dimensions, as well as the information infrastructure and administrative procedures supporting it.21

An important guideline for effective strategic management is open-mindedness. A willing- ness and eagerness to consider new information, new viewpoints, new ideas, and new possibilities is essential; all organizational members must share a spirit of inquiry and learning. Strategists such as chief executive officers, presidents, owners of small businesses, and heads of government agencies must commit themselves to listen to and understand managers’ positions well enough to be able to restate those positions to the managers’ satisfaction. In addition, managers and employ- ees throughout the firm should be able to describe the strategists’ positions to the satisfaction of the strategists. This degree of discipline will promote understanding and learning.

No organization has unlimited resources. No firm can take on an unlimited amount of debt or issue an unlimited amount of stock to raise capital. Therefore, no organization can pursue all the strategies that potentially could benefit the firm. Strategic decisions thus always have to be made to eliminate some courses of action and to allocate organizational resources among others. Most orga- nizations can afford to pursue only a few corporate-level strategies at any given time. It is a critical mistake for managers to pursue too many strategies at the same time, thereby spreading the firm’s resources so thin that all strategies are jeopardized. Joseph Charyk, CEO of the Communication Satellite Corporation (Comsat), said, “We have to face the cold fact that Comsat may not be able to do all it wants. We must make hard choices on which ventures to keep and which to fold.”

Strategic decisions require trade-offs such as long-range versus short-range considerations or maximizing profits versus increasing shareholders’ wealth. There are ethics issues too. Strategy trade-offs require subjective judgments and preferences. In many cases, a lack of ob- jectivity in formulating strategy results in a loss of competitive posture and profitability. Most organizations today recognize that strategic-management concepts and techniques can enhance the effectiveness of decisions. Subjective factors such as attitudes toward risk, concern for social responsibility, and organizational culture will always affect strategy-formulation decisions, but organizations need to be as objective as possible in considering qualitative factors. Table 1-3 summarizes important guidelines for the strategic-planning process to be effective.

chaPter 1 • the nature Of Strategic ManageMent 19

Comparing Business and Military Strategy A strong military heritage underlies the study of strategic management. Terms such as objec- tives, mission, strengths, and weaknesses first were formulated to address problems on the battlefield. According to Webster’s New World Dictionary, strategy is “the science of planning and directing large-scale military operations, of maneuvering forces into the most advanta- geous position prior to actual engagement with the enemy.” The word strategy comes from the Greek strategos, which refers to a military general and combines stratos (the army) and ago (to lead). The history of strategic planning began in the military. A key aim of both business and military strategy is “to gain competitive advantage.” In many respects, business strategy is like military strategy, and military strategists have learned much over the centuries that can benefit business strategists today. Both business and military organizations try to use their own strengths to exploit competitors’ weaknesses. If an organization’s overall strategy is wrong (ineffective), then all the efficiency in the world may not be enough to allow success. Business or military success is generally not the happy result of accidental strategies. Rather, success is the product of both continuous attention to changing external and internal condi- tions and the formulation and implementation of insightful adaptations to those conditions. The element of surprise provides great competitive advantages in both military and business strategy; information systems that provide data on opponents’ or competitors’ strategies and resources are also vitally important.

Of course, a fundamental difference between military and business strategy is that business strategy is formulated, implemented, and evaluated with an assumption of competition, whereas military strategy is based on an assumption of conflict. Nonetheless, military conflict and busi- ness competition are so similar that many strategic-management techniques apply equally to both. Business strategists have access to valuable insights that military thinkers have refined over time. Superior strategy formulation and implementation can overcome an opponent’s supe- riority in numbers and resources.

Both business and military organizations must adapt to change and constantly improve to be successful. Too often, firms do not change their strategies when their environment and competi- tive conditions dictate the need to change. Gluck offered a classic military example of this:

When Napoleon won, it was because his opponents were committed to the strategy, tactics, and organization of earlier wars. When he lost—against Wellington, the Russians, and the Spaniards—it was because he, in turn, used tried-and-true strategies against enemies who thought afresh, who were developing the strategies not of the last war but of the next.22

Table 1-3 Seventeen Guidelines for the Strategic-Planning Process to Be Effective

1. It should be a people process more than a paper process.

2. It should be a learning process for all managers and employees.

3. It should be words supported by numbers rather than numbers supported by words.

4. It should be simple and nonroutine.

5. It should vary assignments, team memberships, meeting formats, and even the planning calendar.

6. It should challenge the assumptions underlying the current corporate strategy.

7. It should welcome bad news.

8. It should welcome open-mindness and a spirit of inquiry and learning.

9. It should not be a bureaucratic mechanism.

10. It should not become ritualistic, stilted, or orchestrated.

11. It should not be too formal, predictable, or rigid.

12. It should not contain jargon or arcane planning language.

13. It should not be a formal system for control.

14. It should not disregard qualitative information.

15. It should not be controlled by “technicians.”

16. Do not pursue too many strategies at once.

17. Continually strengthen the “good ethics is good business” policy.

20 Part 1 • Overview Of Strategic ManageMent

Similarities can be construed from Sun Tzu’s writings to the practice of formulating and implementing strategies among businesses today. Table 1-4 provides narrative excerpts from The Art of War. As you read through the table, consider which of the principles of war apply to busi- ness strategy as companies today compete aggressively to survive and grow.

Special Note to Students In performing strategic management case analysis, emphasize throughout your project, beginning with the first page or slide, where your firm has competitive advantages and disadvantages. More importantly, emphasize throughout how you recommend the firm sustain and grow its competitive advantages and how you recommend the firm overcome its competitive disadvantages. Begin pav- ing the way very early for what you ultimately recommend your firm should do over the next three

Table 1-4 Excerpts from Sun Tzu’s The Art of War Writings

• War is a matter of vital importance to the state: a matter of life or death, the road either to survival or ruin. Hence, it is imperative that it be studied thoroughly.

• Warfare is based on deception. When near the enemy, make it seem that you are far away; when far away, make it seem that you are near. Hold out baits to lure the enemy. Strike the enemy when he is in disorder. Avoid the enemy when he is stronger. If your opponent is of choleric temper, try to irritate him. If he is arrogant, try to encourage his egotism. If enemy troops are well prepared after reorganization, try to wear them down. If they are united, try to sow dissension among them. Attack the enemy where he is unprepared, and appear where you are not expected. These are the keys to victory for a strategist. It is not possible to formulate them in detail beforehand.

• A speedy victory is the main object in war. If this is long in coming, weapons are blunted and morale depressed. When the army engages in protracted campaigns, the resources of the state will fall short. Thus, while we have heard of stupid haste in war, we have not yet seen a clever operation that was prolonged.

• Generally, in war the best policy is to take a state intact; to ruin it is inferior to this. To capture the enemy’s entire army is better than to destroy it; to take intact a regiment, a company, or a squad is better than to destroy it. For to win one hundred victories in one hundred battles is not the epitome of skill. To subdue the enemy without fighting is the supreme excellence. Those skilled in war subdue the enemy’s army without battle.

• The art of using troops is this: When ten to the enemy’s one, surround him. When five times his strength, attack him. If double his strength, divide him. If equally matched, you may engage him with some good plan. If weaker, be capable of withdrawing. And if in all respects unequal, be capable of eluding him.

• Know your enemy and know yourself, and in a hundred battles you will never be defeated. When you are ignorant of the enemy but know your- self, your chances of winning or losing are equal. If ignorant both of your enemy and of yourself, you are sure to be defeated in every battle.

• He who occupies the field of battle first and awaits his enemy is at ease, and he who comes later to the scene and rushes into the fight is weary. And therefore, those skilled in war bring the enemy to the field of battle and are not brought there by him. Thus, when the enemy is at ease, be able to tire him; when well fed, be able to starve him; when at rest, be able to make him move.

• Analyze the enemy’s plans so that you will know his shortcomings as well as his strong points. Agitate him to ascertain the pattern of his movement. Lure him out to reveal his dispositions and to ascertain his position. Launch a probing attack to learn where his strength is abundant and where deficient. It is according to the situation that plans are laid for victory, but the multitude does not comprehend this.

• An army may be likened to water, for just as flowing water avoids the heights and hastens to the lowlands, so an army should avoid strength and strike weakness. And as water shapes its flow in accordance with the ground, so an army manages its victory in accordance with the situation of the enemy. And as water has no constant form, there are in warfare no constant conditions. Thus, one able to win the victory by modifying his tactics in accordance with the enemy situation may be said to be divine.

• If you decide to go into battle, do not anounce your intentions or plans. Project “business as usual.”

• Unskilled leaders work out their conflicts in courtrooms and battlefields. Brilliant strategists rarely go to battle or to court; they generally achieve their objectives through tactical positioning well in advance of any confrontation.

• When you do decide to challenge another company (or army), much calculating, estimating, analyzing, and positioning bring triumph. Little computation brings defeat.

• Skillful leaders do not let a strategy inhibit creative counter-movement. Nor should commands from those at a distance interfere with spontaneous maneuvering in the immediate situation.

• When a decisive advantage is gained over a rival, skillful leaders do not press on. They hold their position and give their rivals the oppor- tunity to surrender or merge. They do not allow their forces to be damaged by those who have nothing to lose.

• Brillant strategists forge ahead with illusion, obscuring the area(s) of major confrontation, so that opponents divide their forces in an attempt to defend many areas. Create the appearance of confusion, fear, or vulnerability so the opponent is helplessly drawn toward this illusion of advantage.

(Note: Substitute the words strategy or strategic planning for war or warfare)

Source: Based on The Art of War and from www.ccs.neu.edu/home/thigpen/html/art_of_war.html

chaPter 1 • the nature Of Strategic ManageMent 21

years. The notion of competitive advantage should be integral to the discussion of every page or PowerPoint slide. Therefore, avoid being merely descriptive in your written or oral analysis; rather, be prescriptive, insightful, and forward-looking throughout your project.

Conclusion All firms have a strategy, even if it is informal, unstructured, and sporadic. All organizations are heading somewhere, but unfortunately some organizations do not know where they are going. The old saying “If you do not know where you are going, then any road will lead you there!” accents the need for organizations to use strategic-management concepts and techniques. The strategic-management process is becoming more widely used by small firms, large companies, nonprofit institutions, governmental organizations, and multinational conglomerates alike. The process of empowering managers and employees has almost limitless benefits.

Organizations should take a proactive rather than a reactive approach in their industry, and they should strive to influence, anticipate, and initiate rather than just respond to events. The strategic-management process embodies this approach to decision making. It represents a logical, systematic, and objective approach for determining an enterprise’s future direction. The stakes are generally too high for strategists to use intuition alone in choosing among alternative courses of action. Successful strategists take the time to think about their businesses, where they are with their businesses, and what they want to be as organizations—and then they implement programs and policies to get from where they are to where they want to be in a reasonable period of time.

It is a known and accepted fact that people and organizations that plan ahead are much more likely to become what they want to become than those that do not plan at all. A good strategist plans and controls his or her plans, whereas a bad strategist never plans and then tries to control people! This textbook is devoted to providing you with the tools necessary to be a good strategist.

Key terms and concepts Annual Objectives (p. 11) Competitive Advantage (p. 8) Empowerment (p. 15) Environmental Scanning (p. 11) External Opportunities (p. 10) External Threats (p. 10) Internal Strengths (p. 11) Internal Weaknesses (p. 11) Intuition (p. 7) Long-Range Planning (p. 5) Long-Term Objectives (p. 11) Mission Statements (p. 10) Policies (p. 12)

Retreats (p. 14) Strategic Management (p. 5) Strategic-Management Model (p. 13) Strategic-Management Process (p. 5) Strategic Planning (p. 5) Strategies (p. 11) Strategists (p. 9) Strategy Evaluation (p. 6) Strategy Formulation (p. 5) Strategy Implementation (p. 6) Sustained Competitive Advantage (p. 9) Vision Statement (p. 10)

issues for review and discussion 1. Are “strategic management” and “strategic planning” syn-

onymous terms? Explain. 2. What are the three stages in strategic management? Which

stage is more analytical? Which relies most on empower- ment to be successful? Which relies most on statistics? Justify your answers.

3. Why do many firms move too hastily from vision/mission development to devising alternative strategies?

4. Why are strategic planning retreats often conducted away from the work site? How often should firms have a retreat, and who should participate in them?

5. Distinguish between long-range planning and strategic planning.

6. Compare a company’s strategic plan with a football team’s game plan.

22 Part 1 • Overview Of Strategic ManageMent

7. Describe the three activities that comprise strategy evaluation.

8. How important do you feel “being adept at adapting” is for business firms? Explain.

9. Compare the opossum and turtle to the woolly mammoth and saber-toothed tiger in terms of being adept at adapt- ing. What can we learn from the opossum and turtle?

10. As cited in the chapter, Edward Deming, a famous busi- nessman, once said, “In God we trust. All others bring data.” What did Deming mean in terms of developing a strategic plan?

11. What strategies do you believe can save newspaper com- panies from extinction?

12. Distinguish between the concepts of vision and mission. 13. Your university has fierce competitors. List three external

opportunities and three external threats that face your university.

14. List three internal strengths and three internal weaknesses that characterize your university.

15. List reasons why objectives are essential for organiza- tional success.

16. List four strategies and a hypothetical example of each. 17. List six characteristics of annual objectives. 18. Why are policies especially important in strategy

implementation? 19. What is a “retreat,” and why do firms take the time and

spend the money to have these? 20. Discuss the notion of strategic planning being more for-

mal versus informal in an organization. On a 1 to 10 scale from formal to informal, what number best represents your view of the most effective approach? Why?

21. List 10 guidelines for making the strategic-planning pro- cess effective. Arrange your guidelines in prioritized order of importance in your opinion.

22. List what you feel are the five most important lessons for business that can be garnered from The Art of War book.

23. What is the fundamental difference between business strat- egy and military strategy in terms of basic assumptions?

24. Explain why the strategic management class is often called a “capstone course.”

25. What aspect of strategy formulation do you think requires the most time? Why?

26. Why is strategy implementation often considered the most difficult stage in the strategic-management process?

27. Why is it so important to integrate intuition and analysis in strategic management?

28. Explain the importance of a vision and a mission statement. 29. Discuss relationships among objectives, strategies, and

policies. 30. Why do you think some chief executive officers fail to use

a strategic-management approach to decision making? 31. Discuss the importance of feedback in the strategic-

management model. 32. How can strategists best ensure that strategies will be

effectively implemented? 33. Give an example of a recent political development that

changed the overall strategy of an organization. 34. Who are the major competitors of your college or uni-

versity? What are their strengths and weaknesses? What are their strategies? How sucessful are these institutions compared to your college?

35. Would strategic-management concepts and techniques benefit foreign businesses as much as domestic firms? Justify your answer.

36. What do you believe are some potential pitfalls or risks in using a strategic-management approach to decision making?

37. In your opinion, what is the single major benefit of using a strategic-management approach to decision making? Justify your answer.

38. Compare business strategy and military strategy. 39. Why is it important for all business majors to study strategic

management since most students will never become a chief executive officer nor even a top manager in a large company?

40. Describe the content available on the SMCO website at www.strategyclub.com

41. List four financial and four nonfinancial benefits of a firm engaging in strategic planning.

42. Why is it that a firm can normally sustain a competitive advantage for only a limited period of time?

43. Why it is not adequate to simply obtain competitive advantage?

44. How can a firm best achieve sustained competitive advantage?

notes 1. Kathy Kiely, “Officials Say Auto CEOs Must Be Specific

on Plans,” USA Today, November 24, 2008, 3B. 2. Peter Drucker, Management: Tasks, Responsibilities, and

Practices (New York: Harper & Row, 1974), 611. 3. Alfred Sloan, Jr., Adventures of the White Collar Man

(New York: Doubleday, 1941), 104. 4. Quoted in Eugene Raudsepp, “Can You Trust Your

Hunches?” Management Review 49, no. 4 (April 1960): 7. 5. Stephen Harper, “Intuition: What Separates Executives

from Managers,” Business Horizons 31, no. 5 (September– October 1988): 16.

6. Ron Nelson, “How to Be a Manager,” Success, July– August 1985, 69.

7. Bruce Henderson, Henderson on Corporate Strategy (Boston: Abt Books, 1979), 6.

8. Robert Waterman, Jr., The Renewal Factor: How the Best Get and Keep the Competitive Edge (New York: Bantam, 1987). See also BusinessWeek, September 14, 1987, 100. Also, see Academy of Management Executive 3, no. 2 (May 1989): 115.

9. Jayne O’Donnell, “Shoppers Flock to Discount Stores,” USA Today, February 25, 2009, B1.

chaPter 1 • the nature Of Strategic ManageMent 23

10. Marc Saltzman, “Many Layoffs at Myspace Could Be Coming Soon,” USA Today, January 4, 2011, 2B.

11. John Pearce II and Fred David, “The Bottom Line on Corporate Mission Statements,” Academy of Management Executive 1, no. 2 (May 1987): 109.

12. Fred R. David, “How Companies Define Their Mission,” Long Range Planning 22, no. 1 (February 1989): 91.

13. Jack Pearce and Richard Robinson, Strategic Management, 7th ed. (New York: McGraw-Hill, 2000), 8.

14. Ann Langley, “The Roles of Formal Strategic Planning,” Long Range Planning 21, no. 3 (June 1988): 40.

15. Bernard Reimann, “Getting Value from Strategic Planning,” Planning Review 16, no. 3 (May–June 1988): 42.

16. G. L. Schwenk and K. Schrader, “Effects of Formal Strategic Planning in Financial Performance in Small Firms: A Meta-Analysis,” Entrepreneurship and Practice 3, no. 17 (1993): 53–64. Also, C. C. Miller and L. B. Cardinal, “Strategic Planning and Firm Performance: A Synthesis of More Than Two Decades of Research,”

Academy of Management Journal 6, no. 27 (1994): 1649– 1665; Michael Peel and John Bridge, “How Planning and Capital Budgeting Improve SME Performance,” Long Range Planning 31, no. 6 (October 1998): 848–856; Julia Smith, “Strategies for Start-Ups,” Long Range Planning 31, no. 6 (October 1998): 857–872.

17. Gordon Greenley, “Does Strategic Planning Improve Company Performance?” Long Range Planning 19, no. 2 (April 1986): 106.

18. Adapted from www.mindtools.com/plreschn.html 19. Adapted from www.des.calstate.edu/limitations.html and

www.entarga.com/stratplan/purposes.html 20. Dale McConkey, “Planning in a Changing Environment,”

Business Horizons, September–October 1988, 66. 21. R. T. Lenz, “Managing the Evolution of the Strategic

Planning Process,” Business Horizons 30, no. 1 (January– February 1987): 39.

22. Frederick Gluck, “Taking the Mystique out of Planning,” Across the Board, July–August 1985, 59.

current readings Bach, David, and David Bruce Allen. “What Every CEO

Needs to Know About Nonmarket Strategy.” MIT Sloan Management Review 51, no. 3 (Spring 2010): 41–44.

Bungay, Stephen. “How to Make the Most of Your Company’s Strategy.” Harvard Business Review, January–February 2011, 132–141.

Carmeli, Abraham, and Gideon D. Markman. “Capture, Governance, and Resilience: Strategy Implications from the History of Rome.” Strategic Management Journal 32, no. 3 (March 2011): 322–341.

Chakravorti, Bhaskar. “Finding Competitive Advantage in Adversity.” Harvard Business Review, November 2010, 102–109.

Chen, Eric L., Ritta Katila, Rory McDonald, and Kathleen M. Eisenhardt. “Life in the Fast Lane: Origins of Competitive Interaction in New vs. Established Markets.” Strategic Management Journal 31, no. 13 (December 2010): 1527–1547.

Christensen, H. Kurt. “Defining Customer Value as the Driver of Competitive Advantage.” Strategy & Leadership 38, no. 5 (2010): 20.

D’Aveni, Richard A., Giovanni Battista Dagnino, and Ken G. Smith. “The Age of Temporary Advantage.” Strategic Management Journal 31, no. 13 (December 2010): 1371–1385.

Delios, Andrew. “How Can Organizations Be Competitive but Dare to Care?” The Academy of Management Perspectives 24, no. 3 (August 2010): 25–36.

Geroski, P. A., Jose Mata, and Pedro Portugal. “Founding Conditions and the Survival of New Firms.” Strategic Management Journal 31, no. 5 (May 2010): 510–529.

Giesen, Edward, Eric Riddleberger, Richard Christner, and Ragna Bell. “When and How to Innovate Your Business Model.” Strategy & Leadership 38, no. 4 (2010): 17.

Gilad, Benjamin. “War Gaming: Virtual Reality, Real Lessons.” Strategy & Leadership 38, no. 6 (2010): 38.

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Harris, Jeanne, Elizabeth Craig, and Henry Egan. “How Successful Organizations Strategically Manage Their Analytic Talent.” Strategy & Leadership 38, no. 3 (2010): 15.

Hitt, Michael A., Katalin Takacs Haynes, and Roy Serpa. “Strategic Leadership for the 21st Century.” Business Horizons 53, no. 5 (September–October 2010): 437–444.

Jacobides, Michael G. “Strategy Tools for a Shifting Landscape.” Harvard Business Review, January–February 2010, 76–85.

Marcel, Jeremy J., Pamela S. Barr, and Irene M. Duhaime. “The Influence of Executive Cognition on Competitive Dynamics.” Strategic Management Journal 32, no. 2 (February 2011): 115–138.

Narayanan, V. K., Lee J. Zane, and Benedict Kemmerer. “The Cognitive Perspective in Strategy: An Integrative Review.” Journal of Management 37, no. 1 (January 2011): 305–351.

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Plambeck, Nilis, and Klaus Weber. “When the Glass is Half Full and Half Empty: CEO’s Ambivalent Interpretations of Strategic Issues.” Strategic Management Journal 31, no. 7 (July 2010): 689–710.

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Zand, Dale E. “Drucker’s Strategic Thinking Process: Three Key Techniques.” Strategy & Leadership 38, no. 3 (2010): 23.

24 Part 1 • Overview Of Strategic ManageMent

the Walt disney company – 2011 Mernoush Banton DIS www.disney.com

Headquartered in Burbank, California, Walt Disney in April 2011 held a groundbreaking ceremony for its new theme park in Shanghai, China—after years of red tape and negotiations with the Chinese government. The new 963-acre park and resort will be 1/26th the size of the 40-square-mile Walt Disney World in Orlando, Florida. But it will be 50 percent larger than Disney Hong Kong, which lost $92.3 million in 2010. Disney will own 43 percent of the new Shanghai Park, a $1.9 billon investment for the company.

For eight decades, Walt Disney has entertained millions of people around the world with its theme parks, resorts, cruises, movies, TV shows, radio programming, and memorabilia. With char- acters such as Mickey Mouse, Donald Duck, and Goofy, Walt Disney is an American icon noted for wholesome family entertainment, especially through huge theme parks in Orlando, Anaheim, Paris, and Hong Kong.

Disney is the world’s largest media conglomerate, owning the ABC television network and 10 broadcast stations, as well as cable networks such as ABC Family, Disney Channel, and ESPN (80%-owned). Walt Disney Studios produces films through the imprints Walt Disney Pictures, Disney Animation, and Pixar, and its Marvel Entertainment is a top comic book publisher and film pro- ducer. The company faces very intense competition, especially from NBC Universal and Paramount Pictures. In July 2011, Disney’s ESPN acquired television rights to the Wimbledon tennis tournament for 12 years, replacing NBC which previously carried the annual event.

History Mr. Walt Disney and his brother Roy arrived in California in the summer of 1923 to sell a car- toon called Alice’s Wonderland. A distributor named M. J. Winkler contracted to distribute the Alice Comedies on October 16, 1923, and the Disney Brothers Cartoon Studio was founded. Over the years, the company produced many cartoons, from Oswald the Lucky Rabbit (1927) to Silly Symphonies (1932), Snow White and the Seven Dwarfs (1937), and Pinocchio and Fantasia (1940). The company name was changed to Walt Disney Studio in 1925. Mickey Mouse emerged in 1928 in the first cartoon with sound. In 1950, Disney completed its first live action film, Treasure Island, and in 1954, the company began television with the Disneyland anthology series. In 1955, Disney’s most successful series, The Mickey Mouse Club, began. Also in 1955, the new Disneyland Park in Anaheim, California opened.

Disney created a series of releases from the 1950s through the 1970s, including The Shaggy Dog, Zorro, Mary Poppins, and The Love Bug. Mr. Walt Disney died in 1966. In 1969, Disney started its educational films and materials. Another important time in Disney’s history was opening Walt Disney World in Orlando, Florida, in 1971. In 1982, the Epcot Center opened as part of Walt Disney World. The following year, Tokyo Disneyland opened.

After leaving network television in 1983, Disney introduced its cable network, The Disney Channel. In 1985, Disney’s Touchstone division began the successful Golden Girls and Disney Sunday Movie. In 1988, Disney opened Grand Floridian Beach and Caribbean Beach Resorts at Walt Disney World along with three new gated attractions: the Disney/MGM Studios Theme Park, Pleasure Island, and Typhoon Lagoon. Filmmaking soon hit new heights as Disney for the first time led Hollywood studios in box-office gross. Some of the successful films were: Who Framed Roger Rabbit, Good Morning Vietnam, Three Men and a Baby, and, later, Honey, I Shrunk the Kids, Dick Tracy, Pretty Woman, and Sister Act. Disney moved into new areas by starting Hollywood Pictures and acquiring the Wrather Corp. (owner of the Disneyland Hotel) and television station KHJ (Los Angeles), which was renamed KCAL. In merchandising, Disney purchased Childcraft and opened numerous highly successful and profitable Disney Stores.

The Cohesion Case

chaPter 1 • the nature Of Strategic ManageMent 25

By 1992, Disney’s animation reached new heights with The Little Mermaid, Beauty and the Beast, and Aladdin. Hollywood Records was formed to offer a wide selection of record- ings ranging from rap to movie soundtracks. New television shows, such as Live With Regis and Kathy Lee, Empty Nest, Dinosaurs, and Home Improvement, expanded Disney’s television base. For the first time, Disney moved into publishing, forming Hyperion Books, Hyperion Books for Children, and Disney Press, which released books on Disney and non-Disney subjects. In 1991, Disney purchased Discover magazine, the leading consumer science monthly. As a totally new venture, Disney was awarded, in 1993, the franchise for a National Hockey League team, the Mighty Ducks of Anaheim.

In 1992, Disneyland Paris opened in France. During the 1990s, Disney introduced Broadway shows, opened 725 Disney Stores, acquired the California Angels baseball team to add to its hockey team, opened Disney’s Wide World of Sports in Walt Disney World, and acquired Capital Cities/ABC.

From 2000 to 2007, Disney created new attractions in its theme parks, produced many successful films, opened new hotels, and built Hong Kong Disneyland. More current Disney initiatives include working with Apple on a joint venture to promote the iPad 2 and iTunes, acquiring Marvel for $4.3 billion, and building the new Shanghai Park.

Internal Issues Organizational Structure As indicated in Exhibit 1, Walt Disney operates using a strategic business unit (SBU) organizational structure that consists of five diverse, but all family-entertainment, segments: 1) Media Networks, 2) Parks and Resorts, 3) Studio Entertainment, 4) Consumer Products, and 5) Interactive Media. The President, CEO, and director of Walt Disney is Robert Iger.

Six of the 10 highest paid CEOs in the world in 2010 came from the media or entertain- ment industries, inclnding Leslie Moonves of CBS, $56.9 million; David Zaslav of Discovery Communications, $42.6 million; Brian Roberts of Comcast, $31.1 million; Robert Iger of Walt Disney, $28 million; and Jeff Bewkes of Time Warner, $26.1 million.

The highest-paid CEO in the world in 2010 was Philippe Dauman of Viacom, the entertain- ment company that owns MTV, Nickelodeon, and Paramount Pictures. He received a pay package valued at $84.5 million, two and a half times what he made the year before. He signed a contract in April 2010 that included stock and options valued by the company at $54.2 million when they were granted.

exhibiT 1 Disney’s Corporate Structure

Walt Disney Company

Studio Entertainment

1. Theatrical Market 2. Home Entertainment Market 3. Television Market 4. Disney Music Group 5. Disney Theatrical Productions

Parks and Resorts

1. Walt Disney World 2. Disneyland 3. Tokyo Disney 4. Disneyland Paris 5. Hong Kong Disneyland 6. Disney Cruise Line 7. Disney Vacation Club

Consumer Products

1. Merchandise Licensing 2. Publishing 3. Retail

Media Networks

1. Disney-ABC Television 2. Domestic Television Stations 3. Cable Networks: ESPN Inc.

Interactive Media

1. Games 2. Online

26 Part 1 • Overview Of Strategic ManageMent

Mission/Vision Disney does not have a mission statement or vision statement.

Finance Disney’s recent income statements and balance sheets are provided in Exhibits 2 and 3 respectively. Note the 20 percent increase in net income in 2010 and the $24 billion in goodwill. For the six months ended April 2, 2011, Disney’s revenues increased 8 percent to $19.793 billion, while the com- pany’s net income increased 25 percent to $2.244 billion.

exhibiT 2 Consolidated Income Statement (in millions, except per share data)

% Change Better (Worse)

2010 2009 2008

2010 vs.

2009

2009 vs.

2008

Revenues $ 38,063 $ 36,149 $ 37,843 5 % (4)% Costs and expense (31,337) (30,452) (30,400) (3)% — % Restructuring and impairment charges (270) (492) (39) 45 % — % Other income (expense) 140 342 (59) (59)% — % Net interest expense (409) (466) (524) 12 % 11 % Equity in the income of investees 440 577 581 (24)% (1)% Income before income taxes 6,627 5,658 7,402 17 % (24)% Income taxes (2,314) (2,049) (2,673) (13)% 23 % Net income 4,313 3,609 4,729 20 % (24)% Less: Net income attributable to noncontrolling interest (350) (302) (302) (16)% — % Net income attributable to The Walt Disney Company (Disney) $ 3,963 $ 3,307 $ 4,427 20 % (25)% Earnings per share attributable to Disney

Diluted $ 2.03 $ 1.76 $ 2.28 15 % (23)%

Basic $ 2.07 $ 1.78 $ 2.34 16 % (24)% Weighted average number of common equivalent shares outstanding: Diluted 1,948 1,875 1,948

Basic 1,915 1,856 1,890

Source: Walt Disney Company, Annual Report (2010).

exhibiT 3 Consolidated Balance Sheets (in millions, except per share data)

October 2, 2010

October 3, 2009

ASSETS Current assets

Cash and cash equivalents $ 2,722 $ 3,417 Receivables 5,784 4,854 Inventories 1,442 1,271 Television costs 678 631 Deferred income taxes 1,018 1,140 Other current assets 581 576

Total current assets 12,225 11,889

Film and television costs 4,773 5,125 Investments 2,513 2,554 Parks resorts mid other property, at cost

chaPter 1 • the nature Of Strategic ManageMent 27

By-Segment Financials Exhibit 4 reveals Disney’s revenue and operating income by business segment. Note that Disney’s Media Networks segment brings in the most revenues and operating income, followed by the Parks & Resorts segment. For the six months ended April 2, 2011, Disney’s Studio Entertainment revenues declined 6 percent to $3.272 billion, while that segment’s operating income declined 3 percent to $452 million. Also for that six month period, Disney’s Interactive Media operating income declined 97 percent to a loss of $128 million. There are obviously some problems in these segments that need to be addressed.

As indicated in Exhibit 5, Disney derives 74 percent of its revenue and 72 percent of its operat- ing income from business in the USA/Canada. All geographic segments had increased revenue and profits in 2010, with Europe being second behind the USA/Canada.

Disney revenues in 2010 were derived from Media Networks (45 percent), Parks & Resorts (28 percent), Studio Entertainment (18 percent), Consumer Products (7 percent), and Interactive Media

October 2, 2010

October 3, 2009

Attractions, buildings and equipment 32,875 32,475 Accumulated depreciation (18,373) (17,395)

14,502 15,080 Projects in progress 2,180 1,350 Land 1,124 1,167

17,806 17,597

Intangible assets, net 5,081 2,247 Goodwill 24,100 21,683 Other assets 2,708 2,022

Total assets $ 69,206 $ 63,117

LIABILITIES Current liabilities

Accounts payable and other accrued liabilities $ 6,109 $ 5,616 Current portion of borrowings 2,350 1,206 Unearned royalties and other advances 2,541 2,112

Total current liabilities 11,000 8,934

Borrowings 10,130 11,495 Deferred income taxes 2,630 1,819 Other long-term liabilities 6,104 5,444 Commitments and contingencies 1,823 1,692

Total liabilities 31,687 29,383 EQUITY

Preferred stock $.01 par value Authorized—100 million shares, Issued—none — —

Common stock $.01 par value Authorized—4.6 billion shares at October 2, 2010 and 3.6 billion shares at October 3, 2009 Issued—2.7 billion shares at October 2, 2010 and 2.6 billion shares at October 3 2009

28,736

27,038

Retained earnings 34,327 31,033 Accumulated other comprehensive loss (l,881) (1,644)

61,182 56,427

Treasury stock, at cost, 803.1 million shares at October 2, 2010 and 781.7 million shares at October 3, 2009

(23,663)

(22,693)

Total Shareholders’ equity 37,519 33,734 Total liabilities and equity $ 69,206 $ 63,117

Source: Walt Disney Company, Annual Report (2010).

exhibiT 3 (Continued)

28 Part 1 • Overview Of Strategic ManageMent

exhibiT 4 Revenue and Operating Income by Segment

% of change

(in millions) 2010 2009 2008

2010 vs.

2009

2009 vs.

2008

Revenues Media Networks $17,162 $16,209 15,857 6% 2% Parks & Resorts 10,761 10,667 11,504 1% (7)% Studio Entertainment 6,701 6,136 7,348 9% (16)% Consumer Products 2,678 2,425 2,415 10% – Interactive Media 761 712 719 7% (1)%

Total Consolidated Revenues $38,063 $36,149 $37,843 5% (4)%

Segment operating income Media Networks $5,132 $4,765 $4,981 8% (4)% Parks & Resorts 1,318 1,418 1,897 (7)% (25)% Studio Entertainment 693 175 1,086 296% (84)% Consumer Products 677 609 778 11% (22)% Interactive Media (234) (295) (258) 21% (14)%

Total segment operating income $7,586 $6,672 $8,484 14% (21)%

Source: Walt Disney Company, Annual Report (2010).

exhibiT 5 Revenue and Operating Income by Region

(in millions) 2010 2009 2008

Revenues USA/Canada $28,279 $27,508 $28,506 Europe 6,550 6,012 6,805 Asia Pacific 2,320 1,860 1,811 Latin America and Other 914 769 721

$38,063 $36,149 $37,843

Segment operating income USA/Canada $ 5,474 $ 4,923 $ 6,500 Europe 1,275 1,158 1,423 Asia Pacific 620 430 386 Latin America and Other 217 161 175

$ 7,586 $ 6,672 $ 8,484

Source: Walt Disney Company, Annual Report (2010).

(2 percent). Operating income was derived from Media Networks (68 percent), Parks & Resorts (17 percent), Studio Entertainment (9 percent), Consumer Products (9 percent), and Interactive Media (a loss). These percentages reveal weakness in Studio Entertainment, since this segment creates 18 percent of revenues but only 9 percent of operating income. The Interactive Media segment is also a weak part of the company since that division is losing money.

Media Networks Disney’s Media Networks segment includes domestic broadcast television, television produc- tion and distribution operations, domestic television stations, international and domestic cable networks, domestic broadcast radio networks and stations, and publishing and digital operations. Disney owns and operates the ABC Television Network, which reaches 99 percent of all U.S. television households.

The Disney-ABC Television Group (Disney-ABC TV) comprises Disney’s global entertain- ment and news television properties, owned television stations group, and radio and publishing businesses. The group’s portfolio includes ABC Television Network, ABC Owned Television Stations Group, ABC Studios, Disney Channels Worldwide, ABC Family, SOAPnet, Disney

chaPter 1 • the nature Of Strategic ManageMent 29

ABC Domestic Television, Disney Media Distribution, Hyperion, and Radio Disney network. The ABC Television Network operates more than 220 affiliated stations across the United States. ABC Owned Television Stations Group owns 10 television stations in the U.S. that include WABC-TV, KABC-TV, WLS-TV, WPVI-TV, and others. ABC Studios develops, pro- duces, and distributes entertainment content across broadcast and cable television and digital platforms.

Disney Channels Worldwide comprises 94 kid and family entertainment channels available in 169 countries and 33 languages. ABC Family is a mixture of series and movies. SOAPnet owns character-driven soapy drama, from daytime and primetime soaps to reality shows and movies. Disney ABC Domestic Television provides motion pictures and TV programming to U.S.-based media platforms. Disney Media Distribution is an international distributor of branded and nonbranded content to all platforms. Hyperion publishes fiction and nonfiction titles for adults. Radio Disney is available in more than 40 U.S. markets and on satellite radio, mobile apps, and the web. Additionally, Disney-ABC TV holds equity interest in A&E Television Networks.

Within Media Networks, Disney also produces and distributes live action and animated television programming under the ABC Studios, ABC Media Productions, and ABC Family Productions labels. Some of their prime time programming includes the dramas Army Wives, Brothers & Sisters, Castle, Criminal Minds, Desperate Housewives, Grey’s Anatomy, and Private Practice; the returning half-hour comedy Cougar Town; new prime-time series that premiered in the fall of 2010, including the one-hour dramas Body of Proof, Detroit 187, No Ordinary Family, Ugly Betty, and Brothers & Sisters; and Jimmy Kimmel Live for late night and a variety of primetime specials for network television and live-action syndicated programming. Syndicated programming includes Live! with Regis and Kelly, a daily talk show, and Who Wants to Be a Millionaire, a game show.

As listed in Exhibit 6, Disney owns 10 television stations. Note that six are located in the top-10 television markets in the United States.

Disney’s cable networks group provides national programming networks and licenses tele- vision programming both domestically and internationally. This business derives a majority of its revenue from fees charged to cable, satellite, and telecommunication service providers. Typically, cable networks operate under multi-year agreements. This helps Disney sell time for commercial announcements. Certain programming developed by cable networks is also distrib- uted in (1) DVD format by the home entertainment division in the Studio Entertainment segment, (2) online via Disney’s Internet sites such as ESPN.com, and (3) on third party services such as iTunes.

Radio Disney, a 24/7 radio network for kids, teens, and families, also operates under this segment. Radio Disney is available on 37 radio stations, 31 of which the company owns, and on RadioDisney.com, Sirius and XM satellite radio, iTunes Radio Tuner, XM/DIRECTV, and mobile phones. Radio Disney programming can be downloaded via the iTunes Music Store. Radio Disney is also available throughout most of South America via a separate Spanish language terrestrial broadcast.

exhibiT 6 Disney-Owned Television Stations

Market tv Station

Television Market Ranking

New York, NY WABC-TV 1

Los Angeles, CA KABC-TV 2

Chicago, IL WLS-TV 3

Philadelphia, PA WPVI-TV 4

San Francisco, CA KGO-TV 6

Houston, TX KTRK-TV 10

Raleigh-Durham, NC WTVD-TV 26

Fresno, CA KFSN-TV 55

Flint, MI WJRT-TV 68

Toledo, OH WTVG-TV 73

30 Part 1 • Overview Of Strategic ManageMent

As indicated in Exhibit 7, Disney’s Cable Networks reported a 9 percent increase in revenues in 2010, and the Broadcasting business reported a 30 percent increase in operating income. For the six months ended April 2, 2011, revenues from Cable Networks were $5.894 billion, up 16 percent, while Broadcasting revenues were up 4 percent to $13.073 billion. Note in Exhibit 8 that Disney has 109 million subscribers to its Disney Channel outside the United States versus 100 million domestic subscribers.

Disney’s ESPN recently signed a 20-year agreement with The University of Texas (UT) and IMG College to develop and operate a year-round, 24-hour network dedicated to UT. The network will offer a variety of content ranging from sports to academic events. For the first time ever, ESPN offered the NBA finals in 2011 in 3-D.

exhibiT 7 Media Networks Segment: Revenue and Operating Income

Change

(in millions) 2010 2009 2008

2010 vs.

2009

2008 vs.

2007

Revenues Cable Networks $ 11,475 $ 10,555 $ 10,041 9% 10% Broadcasting 5,687 5,654 6,075 1% 2%

$ 17,162 $ 16,209 $ 16,116 6% 7% Segment operating income

Cable Networks $ 4,473 $ 4,260 $ 4,100 5% 15% Broadcasting 659 505 655 30% (6)%

$ 5,132 $ 4,765 $ 4,755 8% 11%

Source: Walt Disney Company, Annual Report (2010).

exhibiT 8 Disney’s International Cable Satellite Networks and Broadcast Operations

Property estimated Domestic

Subscribers (in millions)(1) estimated international

Subscribers (in millions)(2) Ownership

%

ESPN ESPN 98 – 80.0 ESPN2 97 – 80.0 ESPN Classic 41 – 80.0 ESPNEWS 74 – 80.0 ESPN Deportes 5 – 80.0 ESPNU 74 – 80.0

Disney Channels Worldwide Disney Channel 100 109 100.0 Playhouse Disney – 45 100.0 Disney XD 78 84 100.0 Disney Cinemagic – 10 73.3 Hungama – 7 100.0

ABC Family 99 – 100.0 SOAPnet 76 – 100.0 A&E / Lifetime

A&E 100 – 42.1 Lifetime Television 100 – 42.1 The History Channel 99 – 42.1 Lifetime Movie Network 79 – 42.1 The Biography Channel 62 42.1 History International 61 – 42.1 Lifetime Real Women(2) 16 – 42.1

(1) Estimated U.S. subscriber counts according to Nielsen Media Research as of September 2010. (2) Subscriber counts are not rated by Nielsen and are based on internal management reports. ESPN and A&E programming are

distributed internationally.

Source: Walt Disney Company, Form 10K (2010).

chaPter 1 • the nature Of Strategic ManageMent 31

Competitors in Media Networks CBS, News Corp., and Time Warner are direct competitors in Disney’s Media Networks segment, as indicated in Exhibit 9.

Time Warner is composed of five divisions: AOL, Cable, Filmed Entertainment, Networks, and Publishing. Time Warner owns Time Inc., AOL, Warner Brothers, TBS Networks, and HBO. Time Warner is a media and entertainment company organized in three primary segments: Networks, Filmed Entertainment, and Publishing.

• The Networks segment provides domestic and international networks and premium pay televi- sion programming services, which consist of the multichannel HBO and Cinemax pay television programming services.

• The Filmed Entertainment segment produces and distributes theatrical motion pictures, televi- sion shows, animation, and other programming; distributes home video products; and licenses rights to its feature films, television programming, and characters. These also compete with Disney.

• The Publishing segment publishes magazines, operates various websites, and is also involved in direct-marketing businesses. It publishes magazines on celebrities; sports; lifestyle, beauty, and fashion; life, home, body, and soul; news and events; economic and business develop- ments.

Exhibit 10 provides Time Warner’s 2010 revenue by segment. News Corp. is a huge, diversified international media and entertainment company with

$33 billion in annual revenue, operating in eight industry segments: Filmed Entertainment, Television, Cable Network Programming, Direct Broadcast Satellite Television, Magazines and Inserts, Newspapers, Book Publishing, and Other. The company has been moving aggressively toward digital technologies such as broadband, mobility, storage, and wireless. News Corp. owns MySpace.com, the Internet’s popular social networking site, and IGN.com (a gaming and enter- tainment site).

exhibiT 9 Disney versus News Corp. and Time Warner

Disney news corp. Time Warner Industry

$Market Cap: 81.83B 48.88B 39.01B 1.41M

#Employees: 149,000 51,000 31,000 N/A

$Revenue: 39.04B 33.08B 26.89B 79.67M

Gross Margin: 18.58% 36.13% 44.42% 40.88%

$EBITDA: 8.99B 5.76B 6.46B −7.17M

Operating Margin: 18.58% 13.97% 20.52% −308.64%

$Net Income: 4.42B 3.13B 2.56B N/A

EPS: 2.27 1.20 2.25 −5.62

P/E: 19.02 15.53 15.87 N/A

Industry = Entertainment - Diversified

Source: Based on information at finance.yahoo.com (March, 2011)

exhibiT 10 Time Warner’s Revenue (in millions) by Segment in 2010

Segment Revenue Operating

Income

Network $12,480 $4,224

Film Entertainment 11,622 1,107

Publishing 3,675 515

Source: Time Warner Inc., Form 10K (2010).

32 Part 1 • Overview Of Strategic ManageMent

News Corp. owns Fox TV, which has an average audience of 6.7 million every night, followed by CBS with 7.6 million viewers during that prime time, Walt Disney’s ABC with 5.4 million viewers per night, and finally NBC (owed by General Electric) with 4.8 million viewers during each prime- time period. News Corp. owns Dow Jones & Co. and the Wall Street Journal. News Corp. owns Liberty Media Corp. and a 41 percent interest in the DIRECTV Group, Inc.

Several uncertainties exist in this industry, including splitting up the royalties of DVD distri- bution fees with screenwriters and competing with lower cable advertising rates and Digital Video Recorder (DVR) devices. In addition, Apple, Inc. is aggressive in forming partnerships with specific media networks. Time Warner Cable Inc. has started a dispute with several large media companies regarding their ability to beam live TV channels to Apple Inc. iPads. This has created tension among major TV-industry players as they each want to offer their own programming over the Internet through hardware companies such as Apple.

Advertising dollars are a major source of income for Walt Disney, which competes with other advertising media such as newspapers, magazines, billboards, and the Internet. This media industry is becoming digitized in almost all areas, and delivery of media is now expanded from traditional TV and radio to handheld devices. The media industry also is benefiting by the introduction of digi- tal television platforms that make it more appealing for companies to develop exclusive program- ming packages. This should help the companies to sell more advertising time based on the unique customer base.

Parks and Resorts Disney owns and operates Walt Disney World Resort in Florida, the Disneyland Resort in California, the Disney Vacation Club, the Disney Cruise Line, Tokyo Disney Resort, and Adventures by Disney. Disney has 51 percent ownership in Disneyland Resort Paris and 47 percent ownership in Hong Kong Disneyland. Disney’s newest theme park will be in the Pudong district of Shanghai.

The new 4,000-passenger ship Disney Dream was christened at Port Canaveral in 2011 and was designed especially for families. Disney Dream joins Disney Magic and Disney Wonder, with another new ship, Disney Fantasy, scheduled to join the Disney fleet in 2012. Disney Dream will sail to Disney’s private island, Castaway Cay. Exhibit 11 summarizes Disney’s key park and resort holdings.

Revenue in this segment is generated from the sale of admissions tickets to the theme parks; hotel room charges per night; sales from merchandise, food, and beverages; rentals and sales from vacation club properties; and sales of cruise vacations. Most costs and expenses in this segment are driven from labor; depreciation of assets; costs of merchandise, food, and beverages; marketing and advertising; repairs and maintenance; and entertainment.

Disney revenues from its Parks and Resorts division increased only 1 percent in 2010, or $94 million, to $10.761 billion, due to a decrease of $38 million at domestic resorts and an increase

exhibiT 11 Disney’s Offerings Under Parks & Resorts

1. Walt Disney World Resorts: Epcot Disney-MGM Studios

Magic Kingdom

Disney’s Animal Kingdom

Resort & Facilities

2. Disneyland Resort: Disneyland Disneyland’s California Adventure

Resort & Facilities

3. Disneyland Resort Paris: Disneyland Park

Walt Disney Studios Park

Resort & Facilities

4. Hong Kong Disneyland Resort:

Hong Kong Disneyland

Hotels

5. Tokyo Disney Resort: Tokyo Disneyland

Tokyo DisneySea

Hotels & Resort Facilities

6. Disney Vacation Club:

7. Disney Cruise Line:

8. Adventures by Disney:

9. Walt Disney Imagineering:

Source: Walt Disney Company, Form 10K (2010).

chaPter 1 • the nature Of Strategic ManageMent 33

of $132 million at Disney’s international resorts. Domestic Parks and Resorts revenues declined due to one fewer week of operations, volume decrease in lower vacation club ownership sales, lower hotel occupancy, and lower passenger cruise ship days. These decreases were partially offset by higher guest spending due to higher average daily hotel room rate and higher average ticket prices. In contrast, the revenue increase in international operations was due to higher guest spending and real estate property sales. Although the impact was nominal, higher attendance and hotel occupancy also helped revenue sales in the international market. Segment operating income decreased by 7 percent, or by $100 million, from 2009 to 2010, mostly due to improvements at international operations.

For the quarter ending April 2, 2011, Parks and Resorts revenues increased 7 percent to $2.6 billion but operating income decreased 3 percent to $145 million. Exhibit 12 provides attendance information for Disney’s Parks and Resorts segment.

The Parks and Resorts segment of Disney is growing, having recently added 481 units to its resort in Aulani (an oceanfront resort in Hawaii); two new ships, the Disney Dream and Disney Fantasy; new personal guide tours; new services and attractions; preferred seating and front-of-line access to rides; as well as new package deals for major corporations and schools.

Disney has plans to offer more stand-alone theme parks and resorts in cities and beach re- sorts, as well as Disney branded retail and dining districts, and smaller and more sophisticated parks. Disney wants to utilize its brand name to expand in other areas of the travel business. The company has built time-share vacation homes in popular places in the United States. Some of the challenges in this marketing strategy have been tailoring the niche attractions to local markets while keeping the Disney brand reputation. There is also a challenge of avoiding the cannibaliza- tion of existing parks and attractions. Food costs increased dramatically in 2010/2011 and nega- tively impacted Disney’s earnings. The United Nations reported that global food costs jumped 25 percent in 2010.

Some additional data for the Disney Parks and Resorts segment is given in Exhibit 13.

Competitors in Parks and Resorts Disney’s theme parks and cruise lines compete worldwide with all other forms of lodging, tour- ism, and recreational activities. Many uncontrollable factors may influence the profitability of the leisure-time industry such as business cycle and exchange rate fluctuations, travel industry trends, amount of available leisure time, oil and transportation prices, and weather patterns. Seasonality is another concern for this segment as all Disney theme parks and the associated resort facilities are operated on a year-round basis. Peak theme park attendance and resort occupancy generally occur during the summer when school vacations take place and during early-winter and spring-holiday periods.

exhibiT 12 Disney Parks and Resorts Data

Domestic International(2) Total

2010 2009 2010 2009 2010 2009

Parks Increase in Attendance (1)% 2% 1% 1% (1)% 2% Increase in Per Capita Guest 3% (6)% 3% (12)% 3% (7)%

Spending Hotels(1)

Occupancy 82% 87% 85% 85% 82% 86% Available Room Nights (in thousands)

9,629 9,549 2,466 2,473 12,095 12,022

Per Room Guest Spending $ 224 $ 214 $ 273 $ 261 $ 234 $ 223

Source: Walt Disney Company, Annual Report (2010).

(1) Per room guest spending consists of the average daily hotel room rate as well as guest spending on food, beverages, and merchandise at the hotels. Hotel statistics include rentals of Disney Vacation Club units.

(2) Per capita guest spending and per room guest spending include the impact of foreign currency trans- lation. Guest spending statistics for Disneyland Paris were converted from euros into U.S. dollars at weighted average exchange rates of 1.36 and 1.35 for fiscal 2010 and 2009, respectively.

34 Part 1 • Overview Of Strategic ManageMent

According to Datamonitor, the global leisure facilities industry generated a total revenue of $130.7 billion in 2009. Theme parks contributed 18.8 percent or $24.7 billion of that total. Walt Disney is the leader in theme parks with an 8.4 percent share of the market, and Six Flags has 0.8 percent.

Six Flags is based in Oklahoma City, Oklahoma, and owns 20 parks across the United States, Mexico, Canada, and soon in Dubai and Qatar, with more than $1 billion in revenue. Six Flags recently acquired Dick Clark productions, producing television hits such as the American Music Awards, The Golden Globe Awards, the Academy of Country Music Awards, Dick Clark’s New Year’s Rockin’ Eve and So You Think You Can Dance.

Established in 1977, Ocean Park in Hong Kong aggressively competes with Disney. Ocean Park is a theme park that covers over 870,000 square meters and receives more than five million tourists each year. Ocean Park has two new sightseeing locations in Shanghai aimed at attracting tourists from regions such as the Yangtze River Delta. Ocean Park is increasing the number of travel attractions to 70 from the current 35 and will complete the construction of four themed travel attractions between 2010 and 2013. Residents in Hong Kong are not very impressed with the small park Disney built there, since many have visited Disneyland in Tokyo or Anaheim.

NBC Universal is perhaps the largest threat to Disney in this segment. NBC Universal owns Universal Studios Hollywood and a 50 percent interest in the Universal Orlando Resort. Comcast Corp. owns a controlling 51 percent interest in NBC Universal, with General Electric holding a 49 percent stake. NBC Universal has license agreements with Universal Studios Japan and Universal Studios Singapore. Each year, millions of guests visit Universal’s theme parks in Florida, California, and Japan rather than going to Disney parks.

Universal Studios Singapore has over 15 new attractions, and in late 2011 debuted “Transformers,” a mega-attraction based on the blockbuster hit movies of the same name. A Universal Studios theme park has been licensed for Dubai, and a Universal Studios theme park in Korea has also been an- nounced. Universal Studios Hollywood is “The Entertainment Capital of L.A.” and the only movie and television-based theme park to offer guests the authenticity of a working movie studio. Within its gates, the rich heritage of movies past and the excitement of today’s Hollywood come alive. The theme park features the world’s largest, most intense 3-D experience: “King Kong 360 3-D Created by Peter Jackson.” Other groundbreaking attractions include “Revenge of the Mummy—The Ride,” “Shrek 4-D,” “Jurassic Park—The Ride,” and “The Simpsons Ride,” as well as the world-renowned Studio Tour, which takes guests behind the scenes of such landmark TV and movie locations as Steven Spielberg’s War of the Worlds.

In Orlando, Florida, there are Universal Studios and Islands of Adventure—as well as Universal CityWalk, a 30-acre restaurant, shopping, and nighttime entertainment complex, and three mag- nificently themed on-site hotels: the Loews Portofino Bay Hotel, Hard Rock Hotel, and the Loews Royal Pacific Resort. Flagship experiences featured in the theme parks include “The Simpsons Ride,” “Revenge of the Mummy—The Ride,” “The Incredible Hulk Coaster,” and “The Amazing Adventures of Spider-Man.” On June 18, 2010, Universal Orlando revealed “The Wizarding World of Harry Potter” at Islands of Adventure—an entire land that brings one of the most popular stories of our time to life.

Carnival Corp. is the world’s largest cruise operator, owning a dozen cruise lines and about 100 ships with a total passenger capacity of more than 190,000. The company operates in North America primarily through its Princess Cruise Line, Holland America, and Seabourn luxury cruise brands, as well as its flag- ship Carnival Cruise Lines unit. Brands such as AIDA, P&O Cruises, and Costa Cruises offer services to

exhibiT 13 Parks and Resorts: Revenue and Operating Income

(in millions) 2010 2009 % Change

Revenues Domestic $ 8,404 $ 8,442 – International 2,357 2,225 6%

$10,761 $10,667 1%

Segment operating income $ 1,318 $ 1,418 (7)%

Source: Walt Disney Company, Annual Report (2010).

chaPter 1 • the nature Of Strategic ManageMent 35

passengers in Europe, and the Cunard Line runs luxury trans-Atlantic liners. Carnival operates as a dual- listed company with UK-based Carnival plc forming a single enterprise under a unified executive team. Royal Caribbean is another cruise company that competes with Disney’s cruise ships.

Studio Entertainment Disney produces live-action and animated motion pictures, direct-to-video programming, mu- sical recordings, and livestage plays. Disney motion pictures are distributed under the names Theatrical Market, Home Entertainment Market, Television Market, Disney Music Group, and Disney Theatrical Productions. Disney has also licensed the rights to produce and distribute feature films such as Spider-Man, The Fantastic Four, and X-Men to third party studios. Disney earns a licensing fee on these films, whereas the third-party studio incurs the cost to produce and distribute the films.

In July 2010, Disney sold the majority of the assets of their Miramax Film Corp. for $663 mil- lion. Disney distributes live-action motion pictures produced by DreamWorks under the Touchstone Pictures banner. Disney released in 2011 the award winning albums 1) TRON: Legacy, 2) TRON: The Original Classic Special Edition, and 3) TRON: Legacy Reconfigured to Blu-ray 3-D and other platforms. The albums peaked at No. 4 on the Billboard 200. Two weeks after becoming the highest- grossing animated film of all time, Toy Story 3 exceeded the $1 billion mark at the global box office, joining Alice in Wonderland as the second $1 billion film in 2010, and made Disney the first company ever to have two $1 billion films released in one year.

In 2010, Disney’s Studio Entertainment segment revenue contributed $6.7 billion to the company’s sales, approximately 17.6 percent. While this segment contributed only 9 percent to the total operating income, its percentage change from 2009 to 2010 was an increase of 296 percent, as indicated in Exhibit 14. However, for the quarter that ended April 2, 2011, studio en- tertainment revenues decreased 13 percent to $1.3 billion while operating income decreased 65 percent to $77 million.

Competitors in Studio Entertainment The Studio Entertainment segment of Disney competes primarily with 1) NBC Universal (which is owned by General Electric) and 2) Paramount Pictures.

NBC Universal is one of the world’s leading media companies in the development, production, and marketing of entertainment, news, and information to a global audience. The new company’s as- sets include some of the most recognized and valuable brands in the industry, such as television net- works NBC, Telemundo, USA Network, Sci-Fi Channel, Bravo, Trio, CNBC, and MSNBC (jointly owned with Microsoft); film studio Universal Pictures; television production studios Universal Television and NBC Studios; a stations group comprising 29 NBC and Telemundo television stations; and interests in five theme parks including Universal Studios Hollywood and Universal Orlando. International assets include excellent positions in the sale and distribution of video and DVD titles, television programming, and feature films in more than 200 countries; and distinctive television chan- nels across Europe, Asia, and Latin America.

Universal offers an all-audience family film business with Illumination Entertainment. Its first pro- duction, the 3-D CGI blockbuster Despicable Me, was one of the highest-grossing and most profitable films of 2010. In addition to filmed entertainment, Universal produces live stage productions, including the cultural phenomenon Wicked and the 10-time Tony Award-winning Billy Elliot the Musical.

exhibiT 14 Studio Entertainment: Revenue and Operating Income

(in millions) 2010 2009 % Change

Revenues Theatrical Distribution $ 2,050 $ 1,325 55% Home Entertainment 2,666 2,762 (3)% Television Distribution and Other 1,985 2,049 (3)%

Total Revenues $ 6,701 $ 6,136 9%

Segment operating income $ 693 $ 175 296%

Source: Walt Disney Company, Annual Report (2010).

36 Part 1 • Overview Of Strategic ManageMent

Paramount Pictures Corp., a division of Viacom, is a global producer and distributor of filmed entertainment, with robust and multifaceted divisions across all areas including digital, home enter- tainment, network and cable television distribution, studio operations, and consumer products and recreation. Paramount has many respected brands, including MTV Networks and BET Networks. Paramount consists of several film labels, including the legendary Paramount Pictures; the leading youth brand, MTV Films; the preeminent family entertainment label, Nickelodeon Movies; and spe- cialty film labels Paramount Vantage and Paramount Classics.

Paramount has established distribution deals with iconic comic book creator Marvel Entertainment and renowned animated film producer DreamWorks Animation. The company’s global business operations include Paramount Digital Entertainment, Paramount Famous Productions, Paramount Home Entertainment, Paramount Pictures International, Paramount Licensing Inc., Paramount Studio Group, and Worldwide Television Distribution.

As the only major motion picture studio based in Hollywood, Paramount is located on an ex- pansive 64-acre state-of-the-art production and business center. During its nearly 100-year history, the studio’s backlot has served as the production site for thousands of notable feature films, televi- sion shows, and commercials. Paramount’s facilities include 30 sound stages, a newly constructed “Chicago Street,” as well as the historic and popular “New York Street,” which features 10 distinct city neighborhood backdrops.

Paramount has some of the most respected and talented filmmakers and producers in the busi- ness, including J.J. Abrams, Brad Pitt, and Martin Scorsese. Paramount has distributed a host of criti- cally acclaimed and box office hits over the last several years, including Cloverfield, Transformers, Indiana Jones & The Kingdom of the Crystal Skull, Norbit, Blades of Glory, and Disturbia.

Paramount’s library consists of more than 1,000 motion picture titles, some television pro- gramming, and varying rights for approximately 2,500 additional motion picture titles. Paramount has numerous Oscar® winning films including 2007’s No Country For Old Men (co-produced with Miramax Films); 2006’s groundbreaking documentary featuring Vice President Al Gore, An Inconvenient Truth; the moving historical drama Braveheart directed by Mel Gibson in 1995; the worldwide sensation starring Tom Hanks, Forrest Gump (1994); and the highest-grossing motion picture of all time, Titanic (1997)—as well as enduring classics such as Breakfast at Tiffany’s (1961), The Ten Commandments (1956), and Sunset Boulevard (1950), among others.

Consumer Products Disney’s Consumer Products segment includes partners with licenses, manufacturers, publishers, and retailers worldwide who design, promote, and sell a wide variety of products based on new and exist- ing Disney characters. Product offerings are: 1) Character Merchandise and Publications Licensing, 2) Books and Magazines, and 3) the Disney Store. Disney released in mid-2011 a new toy line that captured the fantasy, action, and adventure of Pirates of the Caribbean: On Stranger Tides. Disney is perhaps the largest worldwide licensor of character-based merchandise and producer/distributor of children’s film-related products based on retail sales.

In 2010, Disney revenues from this segment increased 9 percent to $1.7 billion. Sales growth at the Disney Stores benefited from the acquisition of Marvel and the strong performance of Toy Story merchandise. Operating income of this segment increased 11 percent to $677 million, as in- dicated in Exhibit 15. Disney is on schedule to add more than 25 new and remodeled Disney Store locations in 2011 and plans to transform all of the more than 350 Disney Store locations around the world.

exhibiT 15 Consumer Products: Revenue and Operating Income

(in millions) 2010 2009 % Change

Revenues Licensing and Publishing $ 1,725 $ 1,584 9% Retail and Other 953 841 13%

Total Revenues $ 2,678 $ 2,425 10%

Segment operating income $ 677 $ 609 11%

Source: Walt Disney Company, Annual Report (2010).

chaPter 1 • the nature Of Strategic ManageMent 37

Disney offers licensing of toys, apparel, home décor and furnishings, stationery, accessories, health and beauty products, food, footwear, and consumer electronics. Some of the major brand names licensed and for which royalties are earned include: Mickey Mouse, Disney Princess, Toy Story, Winnie the Pooh, Cars, Disney Fairies, Hannah Montana, and the Marvel properties, including Spider-Man and Iron Man.

Disney Publishing Worldwide (DPW) publishes children’s books and magazines in multiple countries and languages. Most titles are related to Disney’s cartoon characters such as Mickey Mouse, Disney Princess, Winnie the Pooh, Cars, Disney Fairies, and Toy Story. For the quarter that ended April 2, 2011, Disney’s Consumer Products revenues increased 5 percent to $626 million despite decreases in DPW revenues.

Disney owns and operates many retail stores, both brick and mortar and through Internet sites, under the name of the Disney brand. Actual stores are typically located in large shopping malls and retail complexes and offer a wide range of Disney merchandise. Disney owns 211 stores in North America, 104 stores in Europe, and 48 stores in Japan. Competitors to Disney in this segment are Warner Brothers, Fox, Sony, Marvel, and Nickelodeon.

Interactive Media Disney’s Interactive Media segment creates and delivers Disney-branded entertainment across in- teractive media platforms, especially in games and online. As indicated in Exhibit 16, games and subscriptions revenue was somewhat flat during 2010; however, advertising dollars received through online enterairment increased 35 percent from the prior year.

Disney’s Games business creates, develops, and distributes console, handheld, online, and mobile games worldwide based on properties created by Disney, which includes 2010 titles such as Toy Story 3, Alice in Wonderland, and The Princess and the Frog, as well as new game properties such as Split Seconds. This business also produces online games along with interac- tive games for social networking websites and games for Smartphone platforms. Disney recently acquired Playdom, Inc., a company that develops and publishes online games for social network- ing websites.

Disney’s Online business develops, publishes, and distributes content of Disney-branded on- line services intended for family entertainment. The focus here is to create Disney websites such as Disney.com and Disney Family Network. Disney.com promotes the Disney Channel, Disney Parks and Resorts, Walt Disney Pictures, and Disney Consumer Products.

For the quarter that ended April 2, 2011, Disney’s Interactive Media revenues increased 3 percent to $159 million, but this segment’s operating income decreased by $60 million to a loss of $115 million.

Conclusion The unifying theme for all of Disney’s business segments is family entertainment. In addition to economic conditions, value of the dollar, inflation rates, interest rates, unemployment rates, and GDP variation across countries, Disney’s future success depends on the ability to consistently create and distribute movies, films, programs, theme park attractions, resort services, and consumer products. Heavy investment is required to gain and sustain consumer acceptance and attention as preferences change and differ across continents.

exhibiT 16 Interactive Media: Revenue and Operating Income

(in millions) 2010 2009 % Change

Revenues Games Sales and Subscriptions $ 563 $ 565 – Advertising and Other 198 147 35%

Total Revenues $ 761 $ 712 7%

Segment operating income $ (234) $ (295) 21%

Source: Walt Disney Company, Annual Report (2010).

38 Part 1 • Overview Of Strategic ManageMent

Travel and tourism factors impact Disney’s business, such as adverse weather conditions, natural disasters, terrorist attacks, health concerns, international concerns, political or military developments, and war. Technological challenges face Disney as consumers are shifting to more on-demand movies and shows.

James Mitchell, a Goldman Sachs media analyst, estimates that 80 percent of Disney’s park attendance is from the United States, and that 60 percent of domestic visitors fly to the parks versus 40 percent who drive. Crude oil futures have climbed 19 percent this year in New York. Mitchell has a “buy” rating on Disney and a 12-month share-price forecast of $48. High oil prices are bad for Disney; oil prices dropped 3 percent on May 5, 2011. That was a good day for Disney.

In June 2011, Disney announced plans to layoff 5 percent of the employees or more than 200 people at its film division to reduce costs at the Studio Entertainment segment. Layoffs had been expected as global DVD sales have plunged due to a shift in consumer behavior to on-demand TV services and other digital mediums at home for watching movies. Disney’s Studio Entertainment division is also struggling due to sluggish performance of the worldwide home entertainment and theatrical distribution business. Disney’s Studio Entertainment revenues came in at $1.34 billion in the second quarter of 2011, a decline of 13 percent versus the year-ago quarter. Operating income plunged 65 percent to $77 million in this segment.

On a positive note for Disney, the state of Florida is moving forward with a $1.3 billion com- muter rail system for the Orlando area. Disney had urged the state to build the line, saying it would bring jobs and economic gains to the region where they have operations.

Ultimately, Disney must continue to maintain the image and brand name that Mr. Walt Disney developed while assuring investors and stakeholders that the company will have healthy growth in upcoming years. New competitors like Netflix, Dish Network, and Amazon.com have their eye on taking Disney customers. Prepare a three-year strategic plan for Disney’s CEO, Robert Iger.

Assurance of Learning Exercise 1A

Compare Business Strategy with Military Strategy Purpose This exercise will enable you to compare and contrast military strategy with business strategy, because in many ways operating a business is similar to conducting a military campaign. Many strategic-management concepts evolved out of the military. Napoleon Bonaparte listed 115 max- ims for military strategy. American Civil War General Nathan Bedford Forrest, however, had only one strategic principle: “to git thar furst with the most men” (to get there first with the most men). The strategy concepts given as essential in the United States Army’s Field Manual (FM-3-0) of Military Operations (sections 4–32 to 4–39) says there are nine key military strategy maxims:

1. Objective—direct every military operation towards a clearly defined, decisive, and attainable objective

2. Offensive—seize, retain, and exploit the initiative 3. Mass—concentrate combat power at the decisive place and time 4. Economy of Force—allocate minimum essential combat power to secondary efforts 5. Maneuver—place the enemy in a disadvantageous position through the flexible application of

combat power 6. Unity of Command—for every objective, ensure unity of effort under one responsible commander

assuranCe of Learning exerCises

chaPter 1 • the nature Of Strategic ManageMent 39

7. Security—never permit the enemy to acquire an unexpected advantage 8. Surprise—strike the enemy at a time, at a place, or in a manner for which he is unprepared 9. Simplicity—prepare clear, uncomplicated plans and clear, concise orders to ensure thorough

understanding

Instructions

Step 1 Consider the extent to which each of the nine maxims listed above are applicable in formu- lating and implementing strategies in a business setting.

Step 2 Rank order the nine maxims above, from 1 = most important to 9 = least important in formu- lating and implementing strategies in a business setting.

Step 3 Provide a rationale for each of your rankings in Step 2.

Assurance of Learning Exercise 1B

Gather Strategy Information Purpose The purpose of this exercise is to get you familiar with strategy terms introduced and defined in Chapter 1. Let’s apply these terms to The Walt Disney Company (stock symbol = DIS).

Instructions

Step 1 Go to http://corporate.disney.go.com/ (Walt Disney’s website). Along the top of the site, click on Investor Relations. Then scan down one page and click on 2011 Form 10K and print that document, which may be 100 pages or more. That Form 10K document, however, contains excellent information for developing a list of Walt Disney’s internal strengths and weaknesses. You may also want to review Disney’s most recent Annual Report, which may be found at the website: http://corporate.disney.go.com/investors/ annual_reports.html

Step 2 Go to your college library and make a copy of Standard & Poor’s Industry Surveys for the entertainment industry. This document will contain excellent information for developing a list of external opportunities and threats facing DIS.

Step 3 Go to the www.finance.yahoo.com website. Enter DIS. Note the wealth of information on DIS that may be obtained by clicking any item along the left column. Click on Competitors down the left column. Then print out the resultant tables and information. Note that DIS’s two major competitors are BS, NWS, and TWX.

Step 4 Using the Cohesion Case, the www.finance.yahoo.com information, the 2011 Form 10K, and the Industry Survey document, on a separate sheet of paper list what you consider to be DIS’s three major strengths, three major weaknesses, three major opportunities, and three major threats. Each factor listed for this exercise must include a %, #, $, or ratio to reveal some quantified fact or trend. These factors provide the underlying basis for a strategic plan because a firm strives to take advantage of strengths, improve weaknesses, avoid threats, and capitalize on opportunities.

Step 5 Through class discussion, compare your lists of external and internal factors to those devel- oped by other students and add to your lists of factors. Keep this information for use in later exercises at the end of other chapters.

Step 6 Whatever case company is assigned to you this semester, update the information on your company by following the steps listed here.

Assurance of Learning Exercise 1C

Update the Walt Disney Cohesion Case Purpose Every week Walt Disney updates its website with News Releases of important strategic decisions and information. Since the time this text was published, more than 50 Disney News Releases have been posted. In performing strategic planning and classroom strategic-management case

40 Part 1 • Overview Of Strategic ManageMent

analysis, it is important to have the latest information possible upon which to base decisions and processes.

Instructions

Step 1 Go to the http://corporate.disney.go.com/ website and, down the left column, click on News Releases. Read the most recent Disney News Releases.

Step 2 Type a two-page Executive Summary of Disney’s newest strategies being formulated and implemented.

Step 3 Submit your report to your professor.

Assurance of Learning Exercise 1D

Strategic Planning for My University Purpose External and internal factors are the underlying bases of strategies formulated and implemented by organizations. Your college or university faces numerous external opportunities/threats and has many internal strengths/weaknesses. The purpose of this exercise is to illustrate the process of identifying critical external and internal factors.

External influences include trends in the following areas: economic, social, cultural, demographic, environmental, technological, political, legal, governmental, and competitive. External factors could include declining numbers of high school graduates; population shifts; community relations; increased competitiveness among colleges and universities; rising numbers of adults returning to college; decreased support from local, state, and federal agencies; increasing numbers of foreign students attending U.S. colleges; and a rising number of Internet courses.

Internal factors of a college or university include faculty, students, staff, alumni, athletic pro- grams, physical plant, grounds and maintenance, student housing, administration, fund-raising, academic programs, food services, parking, placement, clubs, fraternities, sororities, and public relations.

Instructions

Step 1 On a separate sheet of paper, write four headings: External Opportunities, External Threats, Internal Strengths, and Internal Weaknesses.

Step 2 As related to your college or university, list five factors under each of the four headings. Step 3 Discuss the factors as a class. Write the factors on the board. Step 4 What new things did you learn about your university from the class discussion? How could

this type of discussion benefit an organization?

Assurance of Learning Exercise 1E

Strategic Planning at a Local Company Purpose This activity is aimed at giving you practical knowledge about how organizations in your city or town are doing strategic planning. This exercise also will give you experience interacting on a professional basis with local business leaders.

Instructions

Step 1 Use the telephone to contact business owners or top managers. Find an organization that does strategic planning. Make an appointment to visit with the strategist (president, chief executive officer, or owner) of that business.

Step 2 Seek answers to the following questions during the interview: • How does your firm formally conduct strategic planning? Who is involved in the process?

Does the firm hold planning retreats? If yes, how often and where? • Does your firm have a written mission statement? How was the statement developed?

When was the statement last changed? • What are the benefits of engaging in strategic planning?

chaPter 1 • the nature Of Strategic ManageMent 41

• What are the major costs or problems in doing strategic planning in your business? • Do you anticipate making any changes in the strategic-planning process at your company?

If yes, please explain. Step 3 Report your findings to the class.

Assurance of Learning Exercise 1F

Get Familiar with SMCO Purpose This exercise is designed to get you familiar with the Strategic Management Club Online (SMCO), which offers many benefits for the strategy student. The SMCO site also offers templates for doing case analyses in this course.

Instructions

Step 1 Go to the www.strategyclub.com website. Review the various sections of this site. Step 2 Prepare a critique of the students’ oral presentation provided on The Wynn Corporation.

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“Notable Quotes” “A business is not defined by its name, statutes, or articles of incorporation. It is defined by the business mission. Only a clear definition of the mission and purpose of the organization makes possible clear and realistic business objectives.” —Peter Drucker

“A corporate vision can focus, direct, moti- vate, unify, and even excite a business into superior performance. The job of a strategist is to identify and project a clear vision.” —John Keane

“Where there is no vision, the people perish.” —Proverbs 29:18

“The last thing IBM needs right now is a vision. (July 1993) What IBM needs most right now is a vision. (March 1996)” —Louis V. Gerstner Jr., CEO, IBM Corporation

“The best laid schemes of mice and men often go awry.” —Robert Burns (paraphrased)

“A strategist’s job is to see the company not as it is … but as it can become.” —John W. Teets, Chairman of Greyhound, Inc.

“That business mission is so rarely given ad- equate thought is perhaps the most important single cause of business frustration.” —Peter Drucker

“The very essence of leadership is that you have to have vision. You can’t blow an uncer- tain trumpet.” —Theodore Hesburgh

chapter objectives After studying this chapter, you should be able to do the following:

1. Describe the nature and role of vision and mission statements in strategic management.

2. Discuss why the process of developing a mission statement is as important as the resulting document.

3. Identify the components of mission statements.

4. Discuss how clear vision and mission statements can benefit other strategic-management activities.

5. Evaluate mission statements of different organizations.

6. Write good vision and mission statements.

assurance of Learning exercise 2a Compare Dollar General’s Mission Statement to Family Dollar’s Mission Statement

assurance of Learning exercise 2b Evaluate Mission Statements

assurance of Learning exercise 2c Write a Vision and Mission Statement for The Walt Disney Company

assurance of Learning exercise 2D Write a Vision and Mission Statement for My University

assurance of Learning exercise 2e Conduct Mission Statement Research

assurance of Learning exercise 2F Evaluate a Mission Proposal

assurance oF Learning exercises

part 2 strategy FormuLation

The Business Vision and Mission

2

44 Part 2 • Strategy Formulation

This chapter focuses on the concepts and tools needed to evaluate and write business vi- sion and mission statements. A practical framework for developing mission statements is provided. Actual mission statements from large and small organizations and for-profit and nonprofit enterprises are presented and critically examined. The process of creating a vi- sion and mission statement is discussed. The recent economic recession resulted in many firms changing direction and thereby altering their entire vision and mission. For example, Microsoft has entered the smartphone business with Nokia, and IBM is focusing more on business analytics.

The boxed insert company examined in this chapter is Dollar General, which has a clear strategic plan. Dollar General is doing great in an improving economy.

We can perhaps best understand vision and mission by focusing on a business when it is first started. In the beginning, a new business is simply a collection of ideas. Starting a new busi- ness rests on a set of beliefs that the new organization can offer some product or service to some customers, in some geographic area, using some type of technology, at a profitable price. A new business owner typically believes that the management philosophy of the new enterprise will result in a favorable public image and that this concept of the business can be communicated to, and will be adopted by, important constituencies. When the set of beliefs about a business at its inception is put into writing, the resulting document mirrors the same basic ideas that underlie

Excellent Strategic Management Showcased

Dollar General Corporation

Called a statement of purpose, Dollar General’s mission statement is as follows: “Serving Others. For Customers A Better Life. For Shareholders A Superior Return. For Employees Respect and Opportunity.” In con- trast, rival Family Dollar’s mission statement reads as follows: “For Our Customers - A compelling place to shop . . . by providing convenience and low prices. For Our Associates - A compelling place to work . . . by providing exceptional opportunities and rewards for achievement. For Our Investors - A compelling place to invest . . . by providing outstand- ing returns.”

While many firms continued to struggle in 2011, Dollar General added 625 new stores and 6,000 new employees in 35 states, boost- ing its total number of stores and employees to 9,200 and 88,000 respectively. Three new states where Dollar General added stores in 2011 were Connecticut, Nevada, and New Hampshire. Dollar General also remodeled or relocated 550 other stores in 2011. Dollar General’s profits increased an incredible 214 percent to $339 million in 2010, while the company’s revenues increased 13 percent to $11.8 billion. Dollar General’s excellent mass retailing strategy of building small stores in small communities has even mighty Wal-Mart doing the same thing with their new, smaller Wal-Mart Express stores.

Founded in 1939 and headquartered near Nashville, Tennessee, Dollar General operates mainly as stand-alone stores in communities too small for a Wal-Mart. Fierce competitors include Family Dollar and Dollar Tree. Dollar General is the largest of the deep-discount retail- ers, but Family Dollar is second with $7.8 billion in sales. All heavily discounted variety stores are making significant inroads taking custom- ers away from Wal-Mart, K-mart, and Target. For the first time ever, Wal-Mart’s 2010 revenues revealed the second straight year of declin- ing domestic same-store sales—partly due to inroads made by Dollar General “Serving Others.”

In addition to selling private la- bel brands, Dol lar General sells prod- ucts from America’s most trusted man- ufacturers, such as Procter & Gamble, Kimberly-Clark, Uni- lever, Kellogg’s, Gen- eral Mills, Nabisco, Hanes, PepsiCo, and Coca-Cola. More than 25 percent of items for sale in a Dollar General store are $1.00 or less. Two years after being taken private by KKR and Goldman Sachs, Dollar General be- came a public company in 2009—just as the recession was sending millions of discount shoppers into their stores.

Dollar General recently launched a new promotion whereby shoppers could enter the “Fresh Start Every Day” Sweepstakes for the chance to pay off their bills, including a grand prize $100,000 home payoff. Rick Dreiling, Dollar General’s chairman and CEO, says: “In these challenging times, it’s exciting for us to give our customers an opportunity to pay off their bills.” In addition to the grand prize, the “Fresh Start Every Day” Sweepstakes awards included: 1st Prize $20,000 Car payoff; 2nd Prize $5,000 Credit Card payoff; and 3rd Prize $2,400 Utility Bills payoff.

Source: Based on company documents.

ChaPter 2 • the BuSineSS ViSion and miSSion 45

the vision and mission statements. As a business grows, owners or managers find it necessary to revise the founding set of beliefs, but those original ideas usually are reflected in the revised statements of vision and mission.

Vision and mission statements often can be found in the front of annual reports. They often are displayed throughout a firm’s premises and are distributed with company information sent to constituencies. The statements are part of numerous internal reports, such as loan requests, supplier agreements, labor relations contracts, business plans, and customer service agreements. In a recent study, researchers concluded that 90 percent of all companies have used a mission statement sometime in the previous five years.1

What Do We Want to Become? It is especially important for managers and executives in any organization to agree on the basic vision that the firm strives to achieve in the long term. A vision statement should answer the basic question, “What do we want to become?” A clear vision provides the foundation for devel- oping a comprehensive mission statement. Many organizations have both a vision and mission statement, but the vision statement should be established first and foremost. The vision state- ment should be short, preferably one sentence, and as many managers as possible should have input into developing the statement.

Several example vision statements are provided in Table 2-1.

What Is Our Business? Current thought on mission statements is based largely on guidelines set forth in the mid-1970s by Peter Drucker, who is often called “the father of modern management” for his pioneering studies at General Motors Corporation and for his 22 books and hundreds of articles. Harvard Business Review has called Drucker “the preeminent management thinker of our time.”

Drucker says that asking the question “What is our business?” is synonymous with asking the question “What is our mission?” An enduring statement of purpose that distin- guishes one organization from other similar enterprises, the mission statement is a declara- tion of an organization’s “reason for being.” It answers the pivotal question “What is our business?” A clear mission statement is essential for effectively establishing objectives and formulating strategies.

Sometimes called a creed statement, a statement of purpose, a statement of philosophy, a state- ment of beliefs, a statement of business principles, or a statement “defining our business,” a mission statement reveals what an organization wants to be and whom it wants to serve. All organizations

Table 2-1 Vision Statement Examples

Tyson Foods’ vision is to be the world’s first choice for protein solutions while maximizing shareholder value. (Author comment: Good statement, unless Tyson provides nonprotein products)

General Motors’ vision is to be the world leader in transportation products and related services. (Author comment: Good statement)

PepsiCo’s responsibility is to continually improve all aspects of the world in which we operate—environment, social, economic—creating a better tomorrow than today. (Author comment: Statement is too vague; it should reveal beverage and food business)

Dell’s vision is to create a company culture where environmental excellence is second nature. (Author comment: Statement is too vague; it should reveal computer business in some manner; the word environmental is generally used to refer to natural environment so is unclear in its use here)

The vision of First Reliance Bank is to be recognized as the largest and most profitable bank in South Carolina. (Author comment: This is a very small new bank headquartered in Florence, South Carolina, so this goal is not achievable in five years; the statement is too futuristic)

Samsonite’s vision is to provide innovative solutions for the traveling world. (Author comment: Statement needs to be more specific, perhaps mention luggage; statement as is could refer to air carriers or cruise lines, which is not good)

Royal Caribbean’s vision is to empower and enable our employees to deliver the best vacation experience for our guests, thereby generating superior returns for our shareholders and enhancing the well-being of our communities. (Author comment: Statement is good but could end after the word “guests”)

Procter & Gamble’s vision is to be, and be recognized as, the best consumer products company in the world. (Author comment: Statement is too vague and readability is not that good)

46 Part 2 • Strategy Formulation

have a reason for being, even if strategists have not consciously transformed this reason into writing. As illustrated in Figure 2-1, carefully prepared statements of vision and mission are widely recog- nized by both practitioners and academicians as the first step in strategic management. Drucker has the following to say about mission statements:

A business mission is the foundation for priorities, strategies, plans, and work assign- ments. It is the starting point for the design of managerial jobs and, above all, for the design of managerial structures. Nothing may seem simpler or more obvious than to know what a company’s business is. A steel mill makes steel, a railroad runs trains to carry freight and passengers, an insurance company underwrites fire risks, and a bank lends money. Actually, “What is our business?” is almost always a difficult question and the right answer is usually anything but obvious. The answer to this question is the first responsibility of strategists.2

Some strategists spend almost every moment of every day on administrative and tacti- cal concerns, and strategists who rush quickly to establish objectives and implement strate- gies often overlook the development of a vision and mission statement. This problem is widespread even among large organizations. Many corporations in America have not yet

Figure 2-1

a Comprehensive Strategic-Management Model

Strategy Formulation

Strategy Implementation

Strategy Evaluation

Chapter 10: Business Ethics, Social Responsibility, and Environmental Sustainability

Chapter 11: Global/International Issues

Measure and Evaluate Performance

Chapter 9

Implement Strategies— Marketing,

Finance, Accounting, R&D,

and MIS Issues Chapter 8

Implement Strategies—

Management Issues

Chapter 7

Perform External Audit

Chapter 3

Develop Vision and Mission Statements Chapter 2

Establish Long-Term Objectives Chapter 5

Generate, Evaluate, and Select Strategies Chapter 6

Perform Internal Audit

Chapter 4

Source: Fred R. David, “How Companies Define Their Mission,” Long Range Planning 22, no. 3 (June 1988): 40.

ChaPter 2 • the BuSineSS ViSion and miSSion 47

developed a formal vision or mission statement.3 An increasing number of organizations are developing these statements.

Some companies develop mission statements simply because they feel it is fashionable, rather than out of any real commitment. However, as described in this chapter, firms that develop and systematically revisit their vision and mission statements, treat them as living documents, and consider them to be an integral part of the firm’s culture realize great benefits. Johnson & Johnson (J&J) is an example firm. J&J managers meet regularly with employees to review, reword, and reaffirm the firm’s vision and mission. The entire J&J workforce rec- ognizes the value that top management places on this exercise, and these employees respond accordingly.

Vision versus Mission Many organizations develop both a mission statement and a vision statement. Whereas the mis- sion statement answers the question “What is our business?” the vision statement answers the question “What do we want to become?” Many organizations have both a mission and vision statement.

It can be argued that profit, not mission or vision, is the primary corporate motivator. But profit alone is not enough to motivate people.4 Profit is perceived negatively by some employees in companies. Employees may see profit as something that they earn and management then uses and even gives away to shareholders. Although this perception is undesired and disturbing to management, it clearly indicates that both profit and vision are needed to motivate a workforce effectively.

When employees and managers together shape or fashion the vision and mission statements for a firm, the resultant documents can reflect the personal visions that managers and employees have in their hearts and minds about their own futures. Shared vision creates a commonality of interests that can lift workers out of the monotony of daily work and put them into a new world of opportunity and challenge.

The Process of Developing Vision and Mission Statements As indicated in the strategic-management model, clear vision and mission statements are needed before alternative strategies can be formulated and implemented. As many managers as possible should be involved in the process of developing these statements because, through involvement, people become committed to an organization.

A widely used approach to developing a vision and mission statement is first to select several articles about these statements and ask all managers to read these as background information. Then ask managers themselves to prepare a vision and mission statement for the organization. A facilitator or committee of top managers should then merge these state- ments into a single document and distribute the draft statements to all managers. A request for modifications, additions, and deletions is needed next, along with a meeting to revise the document. To the extent that all managers have input into and support the final documents, organizations can more easily obtain managers’ support for other strategy formulation, implementation, and evaluation activities. Thus, the process of developing a vision and mis- sion statement represents a great opportunity for strategists to obtain needed support from all managers in the firm.

During the process of developing vision and mission statements, some organizations use discussion groups of managers to develop and modify existing statements. Some organizations hire an outside consultant or facilitator to manage the process and help draft the language. Sometimes an outside person with expertise in developing such statements, who has unbiased views, can manage the process more effectively than an internal group or committee of manag- ers. Decisions on how best to communicate the vision and mission to all managers, employees, and external constituencies of an organization are needed when the documents are in final form. Some organizations even develop a videotape to explain the statements and how they were developed.

An article by Campbell and Yeung emphasizes that the process of developing a mission statement should create an “emotional bond” and “sense of mission” between the organization and its employees.5 Commitment to a company’s strategy and intellectual agreement on the strategies to be pursued do not necessarily translate into an emotional bond; hence, strategies

48 Part 2 • Strategy Formulation

that have been formulated may not be implemented. These researchers stress that an emotional bond comes when an individual personally identifies with the underlying values and behavior of a firm, thus turning intellectual agreement and commitment to strategy into a sense of mission. Campbell and Yeung also differentiate between the terms vision and mission, saying that vision is “a possible and desirable future state of an organization” that includes specific goals, whereas mission is more associated with behavior and the present.

Importance (Benefits) of Vision and Mission Statements The importance (benefits) of vision and mission statements to effective strategic manage- ment is well documented in the literature, although research results are mixed. Rarick and Vitton found that firms with a formalized mission statement have twice the average return on shareholders’ equity than those firms without a formalized mission statement have; Bart and Baetz found a positive relationship between mission statements and organizational per- formance; BusinessWeek reports that firms using mission statements have a 30 percent higher return on certain financial measures than those without such statements; however, some studies have found that having a mission statement does not directly contribute positively to financial performance.6 The extent of manager and employee involvement in developing vi- sion and mission statements can make a difference in business success. This chapter provides guidelines for developing these important documents. In actual practice, wide variations exist in the nature, composition, and use of both vision and mission statements. King and Cleland recommend that organizations carefully develop a written mission statement in order to reap the following benefits:

1. To ensure unanimity of purpose within the organization 2. To provide a basis, or standard, for allocating organizational resources 3. To establish a general tone or organizational climate 4. To serve as a focal point for individuals to identify with the organization’s purpose and

direction, and to deter those who cannot from participating further in the organization’s activities

5. To facilitate the translation of objectives into a work structure involving the assignment of tasks to responsible elements within the organization

6. To specify organizational purposes and then to translate these purposes into objectives in such a way that cost, time, and performance parameters can be assessed and controlled.7

Reuben Mark, former CEO of Colgate, maintains that a clear mission increasingly must make sense internationally. Mark’s thoughts on vision are as follows:

When it comes to rallying everyone to the corporate banner, it’s essential to push one vision globally rather than trying to drive home different messages in different cul- tures. The trick is to keep the vision simple but elevated: “We make the world’s fastest computers” or “Telephone service for everyone.” You’re never going to get anyone to charge the machine guns only for financial objectives. It’s got to be something that makes people feel better, feel a part of something.8

A Resolution of Divergent Views Another benefit of developing a comprehensive mission statement is that divergent views among managers can be revealed and resolved through the process. The question “What is our busi- ness?” can create controversy. Raising the question often reveals differences among strategists in the organization. Individuals who have worked together for a long time and who think they know each other suddenly may realize that they are in fundamental disagreement. For example, in a college or university, divergent views regarding the relative importance of teaching, research, and service often are expressed during the mission statement development process. Negotiation, compromise, and eventual agreement on important issues are needed before people can focus on more specific strategy-formulation activities.

ChaPter 2 • the BuSineSS ViSion and miSSion 49

Considerable disagreement among an organization’s strategists over vision and mission statements can cause trouble if not resolved. For example, unresolved disagreement over the business mission was one of the reasons for W. T. Grant’s bankruptcy and eventual liquidation. As one executive reported:

There was a lot of dissension within the company whether we should go the Kmart route or go after the Montgomery Ward and JCPenney position. Ed Staley and Lou Lustenberger (two top executives) were at loggerheads over the issue, with the upshot being we took a position between the two and that consequently stood for nothing.9

Too often, strategists develop vision and business mission statements only when the orga- nization is in trouble. Of course, it is needed then. Developing and communicating a clear mis- sion during troubled times indeed may have spectacular results and even may reverse decline. However, to wait until an organization is in trouble to develop a vision and mission statement is a gamble that characterizes irresponsible management. According to Drucker, the most impor- tant time to ask seriously, “What do we want to become?” and “What is our business?” is when a company has been successful:

Success always obsoletes the very behavior that achieved it, always creates new realities, and always creates new and different problems. Only the fairy tale story ends, “They lived happily ever after.” It is never popular to argue with success or to rock the boat. It will not be long before success will turn into failure. Sooner or later, even the most successful answer to the question “What is our business?” be- comes obsolete.10

In multidivisional organizations, strategists should ensure that divisional units perform stra- tegic-management tasks, including the development of a statement of vision and mission. Each division should involve its own managers and employees in developing a vision and mission statement that is consistent with and supportive of the corporate mission. Ten benefits of having a clear mission and vision are provided in Table 2-2.

An organization that fails to develop a vision statement as well as a comprehensive and inspiring mission statement loses the opportunity to present itself favorably to existing and potential stakeholders. All organizations need customers, employees, and managers, and most firms need creditors, suppliers, and distributors. The vision and mission statements are effective vehicles for communicating with important internal and external stakeholders. The principal benefit of these statements as tools of strategic management is derived from their specification of the ultimate aims of a firm:

They provide managers with a unity of direction that transcends individual, paro- chial, and transitory needs. They promote a sense of shared expectations among all levels and generations of employees. They consolidate values over time and across individuals and interest groups. They project a sense of worth and intent that can be identified and assimilated by company outsiders. Finally, they affirm the company’s commitment to responsible action, which is symbiotic with its need to preserve and protect the essential claims of insiders for sustained survival, growth, and profitabil- ity of the firm.11

Characteristics of a Mission Statement A Declaration of Attitude A mission statement is more than a statement of specific details; it is a declaration of attitude and outlook. It usually is broad in scope for at least two major reasons. First, a good mission

50 Part 2 • Strategy Formulation

statement allows for the generation and consideration of a range of feasible alternative objectives and strategies without unduly stifling management creativity. Excess specificity would limit the potential of creative growth for the organization. However, an overly general statement that does not exclude any strategy alternatives could be dysfunctional. Apple Computer’s mission state- ment, for example, should not open the possibility for diversification into pesticides—or Ford Motor Company’s into food processing.

Second, a mission statement needs to be broad to reconcile differences effectively among, and appeal to, an organization’s diverse stakeholders, the individuals and groups of individuals who have a special stake or claim on the company. Thus a mission state- ment should be reconcilatory. Stakeholders include employees, managers, stockholders, boards of directors, customers, suppliers, distributors, creditors, governments (local, state, federal, and foreign), unions, competitors, environmental groups, and the general public. Stakeholders affect and are affected by an organization’s strategies, yet the claims and con- cerns of diverse constituencies vary and often conflict. For example, the general public is especially interested in social responsibility, whereas stockholders are more interested in profitability. Claims on any business literally may number in the thousands, and they often include clean air, jobs, taxes, investment opportunities, career opportunities, equal employ- ment opportunities, employee benefits, salaries, wages, clean water, and community ser- vices. All stakeholders’ claims on an organization cannot be pursued with equal emphasis. A good mission statement indicates the relative attention that an organization will devote to meeting the claims of various stakeholders.

The fine balance between specificity and generality is difficult to achieve, but it is well worth the effort. George Steiner offers the following insight on the need for a mission statement to be broad in scope:

Most business statements of mission are expressed at high levels of abstraction. Vagueness nevertheless has its virtues. Mission statements are not designed to ex- press concrete ends, but rather to provide motivation, general direction, an image, a tone, and a philosophy to guide the enterprise. An excess of detail could prove counterproductive since concrete specification could be the base for rallying oppo- sition. Precision might stifle creativity in the formulation of an acceptable mission or purpose. Once an aim is cast in concrete, it creates a rigidity in an organiza- tion and resists change. Vagueness leaves room for other managers to fill in the details.12

As indicated in Table 2-3, in addition to being broad in scope, an effective mission state- ment should not be too lengthy; recommended length is less than 250 words. An effective mis- sion statement should arouse positive feelings and emotions about an organization; it should be inspiring in the sense that it motivates readers to action. A mission statement should be enduring.

Table 2-2 Ten Benefits of Having a Clear Mission and Vision

1. Achieve clarity of purpose among all managers and employees.

2. Provide a basis for all other strategic planning activities, including internal and external assessment, establishing objectives, developing strategies, choosing among alternative strategies, devising policies, establishing organizational structure, allocating resources, and evaluating performance.

3. Provide direction.

4. Provide a focal point for all stakeholders of the firm.

5. Resolve divergent views among managers.

6. Promote a sense of shared expectations among all managers and employees.

7. Project a sense of worth and intent to all stakeholders.

8. Project an organized, motivated organization worthy of support.

9. Achieve higher organizational performance.

10. Achieve synergy among all managers and employees.

ChaPter 2 • the BuSineSS ViSion and miSSion 51

All of these are desired characteristics of a statement. An effective mission statement generates the impression that a firm is successful, has direction, and is worthy of time, support, and invest- ment—from all socioeconomic groups of people.

It reflects judgments about future growth directions and strategies that are based on forward-looking external and internal analyses. A business mission should provide useful criteria for selecting among alternative strategies. A clear mission statement provides a basis for generating and screening strategic options. The statement of mission should be dynamic in orientation, allowing judgments about the most promising growth directions and those consid- ered less promising.

A Customer Orientation A good mission statement describes an organization’s purpose, customers, products or services, markets, philosophy, and basic technology. According to Vern McGinnis, a mission statement should (1) define what the organization is and what the organization aspires to be, (2) be limited enough to exclude some ventures and broad enough to allow for creative growth, (3) distin- guish a given organization from all others, (4) serve as a framework for evaluating both current and prospective activities, and (5) be stated in terms sufficiently clear to be widely understood throughout the organization.13

A good mission statement reflects the anticipations of customers. Rather than develop- ing a product and then trying to find a market, the operating philosophy of organizations should be to identify customers’ needs and then provide a product or service to fulfill those needs.

Good mission statements identify the utility of a firm’s products to its customers. This is why AT&T’s mission statement focuses on communication rather than on telephones; it is why ExxonMobil’s mission statement focuses on energy rather than on oil and gas; it is why Union Pacific’s mission statement focuses on transportation rather than on railroads; it is why Universal Studios’ mission statement focuses on entertainment rather than on movies. A major reason for developing a business mission statement is to attract customers who give meaning to an organization.

The following utility statements are relevant in developing a mission statement:

Do not offer me things.

Do not offer me clothes. Offer me attractive looks.

Do not offer me shoes. Offer me comfort for my feet and the pleasure of walking.

Do not offer me a house. Offer me security, comfort, and a place that is clean and happy.

Do not offer me books. Offer me hours of pleasure and the benefit of knowledge.

Do not offer me CDs. Offer me leisure and the sound of music.

Do not offer me tools. Offer me the benefits and the pleasure that come from making beautiful things.

Do not offer me furniture. Offer me comfort and the quietness of a cozy place.

Do not offer me things. Offer me ideas, emotions, ambience, feelings, and benefits.

Please, do not offer me things.

Mission Statement Components Mission statements can and do vary in length, content, format, and specificity. Most practitio- ners and academicians of strategic management feel that an effective statement should include nine components. Because a mission statement is often the most visible and public part of the strategic-management process, it is important that it includes the nine characteristics as sum- marized in Table 2-3, as well as the following nine components:

1. Customers—Who are the firm’s customers? 2. Products or services—What are the firm’s major products or services? 3. Markets—Geographically, where does the firm compete? 4. Technology—Is the firm technologically current?

52 Part 2 • Strategy Formulation

5. Concern for survival, growth, and profitability—Is the firm committed to growth and financial soundness?

6. Philosophy—What are the basic beliefs, values, aspirations, and ethical priorities of the firm?

7. Self-concept—What is the firm’s distinctive competence or major competitive advantage?

8. Concern for public image—Is the firm responsive to social, community, and environmental concerns?

9. Concern for employees—Are employees a valuable asset of the firm?14

Excerpts from the mission statements of different organizations are provided in Table 2-4 to exemplify the nine essential mission statement components.

Writing and Evaluating Mission Statements Perhaps the best way to develop a skill for writing and evaluating mission statements is to study actual company missions. Therefore, the mission statements presented in Table 2-5 are evaluated based on the nine desired components. Note in Table 2-5 that numbers provided in each statement reveal what components are included in the respective documents. Among the statements in Table 2-5, note that the Dell mission statement is the best because it lacks only one component, whereas the L’Oreal statement is the worst, lacking six of the nine recommended components.

There is no one best mission statement for a particular organization, so good judgment is required in evaluating mission statements. Realize that some individuals are more demanding than others in assessing mission statements in this manner. For example, if a statement merely includes the word “customers” without specifying who the customers are, is that satisfactory? Ideally a statement would provide more than simply inclusion of a single word such as “prod- ucts” or “employees” regarding a respective component. Why? Because the statement should be informative, inspiring, enduring, and serve to motivate stakeholders to action. Evaluation of a mission statement regarding inclusion of the nine components is just the beginning of the pro- cess to assess a statement’s overall effectiveness.

Special Note to Students Recall that gaining and sustaining competitive advantage is the essence of strategic manage- ment, so when presenting your vision/mission analysis for the firm, be sure to address the “self concept” or “distinctive competence” component. Compare your recommended vision/ mission statement both with the firm’s existing statements and with rival firms’ statements in order to clearly reveal how your recommendations or strategic plan enables the firm to gain and sustain competitive advantage. Thus, your proposed mission statement should certainly include the nine components and nine characteristics, but in your vision/mission discus- sion, focus on competitive advantage. In other words, be prescriptive, forward-looking, and insightful—couching your vision/mission overview in terms of how you believe the firm can

Table 2-3 Characteristics of a Mission Statement

1. Broad in scope; do not include monetary amounts, numbers, percentages, ratios, or objectives

2. Less than 250 words in length

3. Inspiring

4. Identify the utility of a firm’s products

5. Reveal that the firm is socially responsible

6. Reveal that the firm is environmentally responsible

7. Include nine components customers, products or services, markets, technology, concern for survival/growth/profits, philosophy, self-concept, concern for public image, concern for employees

8. Reconciliatory

9. Enduring

ChaPter 2 • the BuSineSS ViSion and miSSion 53

Table 2-4 Examples of the Nine Essential Components of a Mission Statement

1. Customers

We believe our first responsibility is to the doctors, nurses, patients, mothers, and all others who use our products and services. (Johnson & Johnson)

To earn our customers’ loyalty, we listen to them, anticipate their needs, and act to create value in their eyes. (Lexmark International)

2. Products or Services

AMAX’s principal products are molybdenum, coal, iron ore, copper, lead, zinc, petroleum and natural gas, potash, phosphates, nickel, tungsten, silver, gold, and magnesium. (AMAX Engineering Company)

Standard Oil Company (Indiana) is in business to find and produce crude oil, natural gas, and natural gas liquids; to manufacture high-quality products useful to society from these raw materials; and to distribute and market those products and to provide dependable related services to the consuming public at reasonable prices. (Standard Oil Company)

3. Markets

We are dedicated to the total success of Corning Glass Works as a worldwide competitor. (Corning Glass Works)

Our emphasis is on North American markets, although global opportunities will be explored. (Blockway)

4. Technology

Control Data is in the business of applying micro-electronics and computer technology in two general areas: computer-related hardware; and computing-enhancing services, which include computation, information, education, and finance. (Control Data)

We will continually strive to meet the preferences of adult smokers by developing technologies that have the potential to reduce the health risks associated with smoking. (RJ Reynolds)

5. Concern for Survival, Growth, and Profitability

In this respect, the company will conduct its operations prudently and will provide the profits and growth which will assure Hoover’s ultimate success. (Hoover Universal)

To serve the worldwide need for knowledge at a fair profit by adhering, evaluating, producing, and distributing valuable information in a way that benefits our customers, employees, other investors, and our society. (McGraw-Hill)

6. Philosophy

Our world-class leadership is dedicated to a management philosophy that holds people above profits. (Kellogg)

It’s all part of the Mary Kay philosophy—a philosophy based on the golden rule. A spirit of sharing and caring where people give cheerfully of their time, knowledge, and experience. (Mary Kay Cosmetics)

7. Self-Concept

Crown Zellerbach is committed to leapfrogging ongoing competition within 1,000 days by unleashing the constructive and creative abilities and energies of each of its employees. (Crown Zellerbach)

8. Concern for Public image

To share the world’s obligation for the protection of the environment. (Dow Chemical)

To contribute to the economic strength of society and function as a good corporate citizen on a local, state, and national basis in all countries in which we do business. (Pfizer)

9. Concern for Employees

To recruit, develop, motivate, reward, and retain personnel of exceptional ability, character, and dedication by providing good working conditions, superior leadership, compensation on the basis of performance, an attractive benefit program, opportunity for growth, and a high degree of employment security. (The Wachovia Corporation)

To compensate its employees with remuneration and fringe benefits competitive with other employment opportunities in its geographical area and commensurate with their contributions toward efficient corporate operations. (Public Service Electric & Gas Company)

best gain and sustain competitive advantage. Do not be content with merely showing a nine- component comparison of your proposed statement with rival firms’ statements, although that would be nice to include in your analysis.

Conclusion Every organization has a unique purpose and reason for being. This uniqueness should be reflected in vision and mission statements. The nature of a business vision and mission can represent either a competitive advantage or disadvantage for the firm. An organization achieves a heightened sense of purpose when strategists, managers, and employees develop and commu- nicate a clear business vision and mission. Drucker says that developing a clear business vision and mission is the “first responsibility of strategists.”

54 Part 2 • Strategy Formulation

A good mission statement reveals an organization’s customers; products or services; mar- kets; technology; concern for survival, growth, and profitability; philosophy; self-concept; concern for public image; and concern for employees. These nine basic components serve as a practical framework for evaluating and writing mission statements. As the first step in strategic management, the vision and mission statements provide direction for all planning activities.

Well-designed vision and mission statements are essential for formulating, implement- ing, and evaluating strategy. Developing and communicating a clear business vision and mission are the most commonly overlooked tasks in strategic management. Without clear statements of vision and mission, a firm’s short-term actions can be counterproductive to long-term interests. Vision and mission statements always should be subject to revision, but, if carefully prepared, they will require infrequent major changes. Organizations usually reexamine their vision and mission statements annually. Effective mission statements stand the test of time.

Vision and mission statements are essential tools for strategists, a fact illustrated in a short story told by Porsche’s former CEO Peter Schultz:

Three people were at work on a construction site. All were doing the same job, but when each was asked what his job was, the answers varied: “Breaking rocks,” the first replied; “Earning a living,” responded the second; “Helping to build a cathedral,” said the third. Few of us can build cathedrals. But to the extent we can see the cathedral in whatever cause we are following, the job seems more worthwhile. Good strategists and a clear mission help us find those cathedrals in what otherwise could be dismal issues and empty causes.15

Table 2-5 Example Mission Statements

Fleetwood Enterprises will lead the recreational vehicle and manufactured housing industries (2, 7) in providing quality products, with a passion for customer-driven innovation (1). We will emphasize training, embrace diversity and provide growth opportunities for our associates and our dealers (9). We will lead our industries in the application of appropriate technologies (4). We will operate at the highest levels of ethics and compliance with a focus on exemplary corporate governance (6). We will deliver value to our shareholders, positive operating results and industry-leading earnings (5). (Author comment: Statement lacks two components: Markets and Concern for Public Image)

We aspire to make PepsiCo the world’s (3) premier consumer products company, focused on convenient foods and beverages (2). We seek to produce healthy financial rewards for investors (5) as we provide opportunities for growth and enrichment to our employees (9), our business partners and the communities (8) in which we operate. And in everything we do, we strive to act with honesty, openness, fairness and integrity (6). (Author comment: Statement lacks three components: Customers, Technology, and Self-Concept)

We are loyal to Royal Caribbean and Celebrity and strive for continuous improvement in everything we do. We always provide service with a friendly greeting and a smile (7). We anticipate the needs of our customers and make all efforts to exceed our customers’ expectations (1). We take ownership of any problem that is brought to our attention. We engage in conduct that enhances our corporate reputation and employee morale (9). We are committed to act in the highest ethical manner and respect the rights and dignity of others (6). (Author comment: Statement lacks five components: Products/Services, Markets, Technology, Concern for Survival/Growth/Profits, Concern for Public Image)

Dell’s mission is to be the most successful computer company (2) in the world (3) at delivering the best customer experience in markets we serve (1). In doing so, Dell will meet customer expectations of highest quality; leading technology (4); competitive pricing; individual and company accountability (6); best-in-class service and support (7); flexible customization capability (7); superior corporate citizenship (8); financial stability (5). (Author comment: Statement lacks only one component: Concern for Employees)

Procter & Gamble will provide branded products and services of superior quality and value (7) that improve the lives of the world’s (3) consumers. As a result, consumers (1) will reward us with industry leadership in sales, profit (5), and value creation, allowing our people (9), our shareholders, and the communities (8) in which we live and work to prosper. (Author comment: Statement lacks three components: Products/Services, Technology, and Philosophy)

At L’Oreal, we believe that lasting business success is built upon ethical (6) standards which guide growth and on a genuine sense of responsibility to our employees (9), our consumers, our environment and to the communities in which we operate (8). (Author comment: Statement lacks six components: Customers, Products/Services, Markets, Technology, Concern for Survival/Growth/Profits, Concern for Public Image)

Note: The numbers in parentheses correspond to the nine components listed on page 51; author comments also refer to those components.

ChaPter 2 • the BuSineSS ViSion and miSSion 55

Key terms and Concepts Concern for Employees (p. 52) Concern for Public Image (p. 52) Concern for Survival, Growth, and

Profitability (p. 52) Creed Statement (p. 45) Customers (p. 51) Markets (p. 51) Mission Statement (p. 45)

Mission Statement Components (p. 51) Philosophy (p. 52) Products or Services (p. 51) Reconciliatory (p. 50) Self-Concept (p. 52) Stakeholders (p. 50) Technology (p. 51) Vision Statement (p. 45)

issues for review and Discussion 1. Some excellent nine-component mission statements con-

sist of just two sentences. Write a two-sentence mission statement for a company of your choice.

2. How do you think an organization can best align company mission with employee mission?

3. What are some different names for “mission statement,” and where will you likely find a firm’s mission statement?

4. If your company does not have a vision or mission statement, describe a good process for developing these documents.

5. Explain how developing a mission statement can help resolve divergent views among managers in a firm.

6. Drucker says the most important time to seriously reex- amine the firm’s vision/mission is when the firm is very successful. Why is this?

7. Explain why a mission statement should not include mon- etary amounts, numbers, percentages, ratios, goals, or objectives.

8. Discuss the meaning of the following statement: “Good mission statements identify the utility of a firm’s products to its customers.”

9. Distinguish between the “self-concept” and the “philoso- phy” components in a mission statement. Give an example of each for your university.

10. When someone or some company is “on a mission” to achieve something, many times they cannot be stopped. List three things in prioritized order that you are “on a mission” to achieve in life.

11. Compare and contrast vision statements with mission statements in terms of composition and importance.

12. Do local service stations need to have written vision and mission statements? Why or why not?

13. Why do you think organizations that have a compre- hensive mission tend to be high performers? Does hav- ing a comprehensive mission cause high performance?

14. Explain why a mission statement should not include strat- egies and objectives.

15. What is your college or university’s self-concept? How would you state that in a mission statement?

16. Explain the principal value of a vision and a mission statement.

17. Why is it important for a mission statement to be reconcil- iatory?

18. In your opinion, what are the three most important com- ponents that should be included when writing a mission statement? Why?

19. How would the mission statements of a for-profit and a nonprofit organization differ?

20. Write a vision and mission statement for an organization of your choice.

21. Conduct a search on the Internet with the keywords vi- sion statement and mission statement. Find various company vision and mission statements and evaluate the documents. Write a one-page, single-spaced report on your findings.

22. Who are the major stakeholders of the bank that you do business with locally? What are the major claims of those stakeholders?

23. List seven characteristics of a mission statement. 24. List eight benefits of having a clear mission statement. 25. How often do you think a firm’s vision and mission

statements should be changed?

notes 1. Barbara Bartkus, Myron Glassman, and Bruce McAfee,

“Mission Statements: Are They Smoke and Mirrors?” Business Horizons, November–December 2000, 23.

2. Peter Drucker, Management: Tasks, Responsibilities, and Practices (New York: Harper & Row, 1974), 61.

3. Fred David, “How Companies Define Their Mission,” Long Range Planning 22, no. 1 (February 1989): 90–92; John Pearce II and Fred David, “Corporate Mission Statements: The Bottom Line,” Academy of Management Executive 1, no. 2 (May 1987): 110.

56 Part 2 • Strategy Formulation56 Part 2 • Strategy Formulation

4. Joseph Quigley, “Vision: How Leaders Develop It, Share It and Sustain It,” Business Horizons, September–October 1994, 39.

5. Andrew Campbell and Sally Yeung, “Creating a Sense of Mission,” Long Range Planning 24, no. 4 (August 1991): 17.

6. Charles Rarick and John Vitton, “Mission Statements Make Cents,” Journal of Business Strategy 16 (1995): 11. Also, Christopher Bart and Mark Baetz, “The Relationship Between Mission Statements and Firm Performance: An Exploratory Study,” Journal of Management Studies 35 (1998): 823; “Mission Possible,” Business Week (August 1999): F12.

7. W. R. King and D. I. Cleland, Strategic Planning and Policy (New York: Van Nostrand Reinhold, 1979), 124.

8. Brian Dumaine, “What the Leaders of Tomorrow See,” Fortune, July 3, 1989, 50.

9. Drucker, 78, 79.

10. “How W. T. Grant Lost $175 Million Last Year,” Business Week, February 25, 1975, 75.

11. Drucker, 88. 12. John Pearce II, “The Company Mission as a Strategic Tool,”

Sloan Management Review 23, no. 3 (Spring 1982): 74. 13. George Steiner, Strategic Planning: What Every Manager

Must Know (New York: The Free Press, 1979), 160. 14. Vern McGinnis, “The Mission Statement: A Key Step

in Strategic Planning,” Business 31, no. 6 (November– December 1981): 41.

15. Drucker, 61. 16. http://ezinearticles.com/?Elements-of-a-Mission-

Statement&id=3846671 17. Robert Waterman Jr., The Renewal Factor: How the Best

Get and Keep the Competitive Edge (New York: Bantam, 1987); Business Week, September 14, 1987, 120.

Assurance of Learning Exercise 2A

Compare Dollar General’s Mission Statement to Family Dollar’s Mission Statement Purpose As showcased at the beginning of this chapter, Dollar General goes toe to toe every day competing against Family Dollar. Mission statements of the two companies are provided in the opening boxed insert for this chapter.

Instructions

Step 1 Compare Dollar General and Family Dollar’s mission statements in terms of 1) the nine components and 2) the nine characteristics presented in this chapter.

Step 2 Turn your work in for a classwork grade.

AssurAnce of LeArning exercises

Current readings Bartkus, Barbara, Myron Glassman, and R. Bruce McAfee.

“Mission Statements: Are They Smoke and Mirrors?” Business Horizons 43, no. 6 (November–December 2000): 23.

Church Mission Statements, http://www.missionstatements .com/church_mission_statements.html

Collins, David J., and Michael G. Rukstad. “Can You Say What Your Strategy Is?” Harvard Business Review, April 2008, 82.

Company Mission Statements, http://www.missionstatements .com/company_mission_statements.html

Conger, Jay A., and Douglas A. Ready. “Enabling Bold Visions.” MIT Sloan Management Review 49, no. 2 (Winter 2008): 70.

Day, George S., and Paul Schoemaker. “Peripheral Vision: Sensing and Acting on Weak Signals.” Long Range Planning 37, no. 2 (April 2004): 117.

Ibarra, Herminia, and Otilia Obodaru. “Women and the Vision Thing.” Harvard Business Review, January 2009, 62–71.

Lissak, Michael, and Johan Roos. “Be Coherent, Not Visionary.” Long Range Planning 34, no. 1 (February 2001): 53.

Newsom, Mi Kyong, David A. Collier, and Eric O. Olsen. “Using ‘Biztainment’ to Gain Competitive Advantage.” Business Horizons, March–April 2009, 167–166.

Nonprofit Organization Mission Statements, http://www .missionstatements.com/nonprofit_mission_statements .html

Restaurant Mission Statements, http://www.missionstatements .com/restaurant_mission_statements.html

School Mission Statements, http://www.missionstatements .com/school_mission_statements.html

ChaPter 2 • the BuSineSS ViSion and miSSion 57

Assurance of Learning Exercise 2B

Evaluate Mission Statements Purpose A business mission statement is an integral part of strategic management. It provides direction for formulating, implementing, and evaluating strategic activities. This exercise will give you practice evaluating mission statements, a skill that is a prerequisite to writing a good mission statement.

Instructions

Step 1 On a clean sheet of paper, prepare a 9 × 5 matrix. Place the nine mission statement com- ponents down the left column and the following five companies across the top of your paper.

Step 2 Write Yes or No in each cell of your matrix to indicate whether you feel the particular mis- sion statement includes the respective component.

Step 3 Turn your paper in to your instructor for a classwork grade.

Mission Statements Dole Food Company Dole Food Company, Inc. is committed to supplying the consumer and our customers with the finest, high-quality products and to leading the industry in nutrition research and education. Dole supports these goals with a corporate philosophy of adhering to the highest ethical conduct in all its business dealings, treatment of its employees, and social and environmental policies.

Mattel, Inc. Mattel makes a difference in the global community by effectively serving children in need. Partnering with charitable organizations dedicated to directly serving children, Mattel creates joy through the Mattel Children’s Foundation, product donations, grant making and the work of employee volunteers. We also enrich the lives of Mattel employees by identifying diverse volunteer opportunities and sup- porting their personal contributions through the matching gifts program.

Dominos Pizza To be the leader in delivering off-premise pizza convenience to consumers around the world. As a team united throughout the world, we will accomplish our mission by: 1. Being fanatical about prod- uct quality and service consistency; 2. providing product variety to meet all customer needs; 3. placing team member and customer safety and security above all other concerns; 4. creating an environment in which all team members feel valued, because they are; 5. building and maintaining relationships that reward franchisees and other partners for their contributions.

Papa Johns To deliver the perfect pizza by exceeding the needs and expectations of our customers, franchise fam- ily, team members and stockholders.

Pizza Hut We take pride in making a perfect pizza and providing courteous and helpful service on time all the time. Every customer says, “I’ll be back!” We are the employer of choice offering team members opportunities for growth, advancement, and rewarding careers in a fun, safe working environment. We are accountable for profitability in everything we do, providing our shareholders with value growth. Source: Based on http://www.missionstatements.com/fortune_500_mission_statements.htmlp

Assurance of Learning Exercise 2C

Write a Vision and Mission Statement for The Walt Disney Company Purpose There is always room for improvement in regard to an existing vision and mission statement. Currently Disney does not have a vision statement or mission statement, so this exercise asks you to develop one. But first, go to the http://corporate.disney.go.com/ website. Look down the left column and click on Company Overview. Read this material because some of that narrative may be good to include in your proposed a Disney vision and mission statement.

58 Part 2 • Strategy Formulation

Instructions

Step 1 Refer back to the Cohesion Case and DIS’s Form 10K. Step 2 On a clean sheet of paper, write a one-sentence vision statement for The Walt Disney

Company. Step 3 On that same sheet of paper, write a mission statement for The Walt Disney Company.

Assurance of Learning Exercise 2D

Write a Vision and Mission Statement for My University Purpose Most universities have a vision and mission statement. The purpose of this exercise is to give you prac- tice writing a vision and mission statement for a nonprofit organization such as your own university.

Instructions

Step 1 Write a vision statement and a mission statement for your university. Your mission statement should include the nine characteristics summarized in Table 2-3, and the nine components in Table 2-4.

Step 2 Read your vision and mission statement to the class. Step 3 Determine whether your institution has a vision and/or mission statement. Look in the front

of the college handbook. If your institution has a written statement, contact an appropriate administrator of the institution to inquire as to how and when the statement was prepared. Share this information with the class. Analyze your college’s vision and mission statement in light of the concepts presented in this chapter.

Assurance of Learning Exercise 2E

Conduct Mission Statement Research Purpose This exercise gives you the opportunity to study the nature and role of vision and mission statements in strategic management.

Instructions

Step 1 Call various organizations in your city or county to identify firms that have developed a formal vision and/or mission statement. Contact nonprofit organizations and government agencies in addition to small and large businesses. Ask to speak with the director, owner, or chief executive officer of each organization. Explain that you are studying vision and mis- sion statements in class and are conducting research as part of a class activity.

Step 2 Ask several executives the following four questions, and record their answers. 1. When did your organization first develop its vision and/or mission statement? Who was

primarily responsible for its development? 2. How long have your current statements existed? When were they last modified? Why

were they modified at that time? 3. By what process are your firm’s vision and mission statements altered? 4. How are your vision and mission statements used in the firm?

Step 3 Provide an overview of your findings to the class.

Assurance of Learning Exercise 2F

Evaluate a Mission Proposal Purpose The Heinz Food Company has a combined vision/mission that is given below. An employee recently proposed to the company that a separate vision statement and mission statement is needed. The employee’s proposed new statements are given below the actual company document. This exercise gives you practice evaluating the new employee’s proposal.

ChaPter 2 • the BuSineSS ViSion and miSSion 59

Instructions

Step 1 Review and analyze the actual and proposed vision/mission statements for Heinz. Step 2 Respond to the employee’s proposal with a one-page written assessment. Turn your analysis

in to your professor.

Heinz’s Actual Vision/Mission As a global food company, Heinz is committed to enhancing the nutrition, health and wellness of people and their communities to make the world a better place to live. Heinz aims to manufacture safe, healthy, nutritious, high quality food.

Proposed Vision To be the world’s premier food company, offering affordable, nutritious, superior tasting foods to enhance the quality of life for people everywhere.

Proposed Mission As a leading global food company, Heinz brand products are recognized for offering high quality, healthy, nutritious food products that enhance the lives of people worldwide. We spot consumer and customer needs and meet them with convenient, creative solutions using the latest innovations in ingredients, processing, packaging, labeling, and storage. Heinz strives to empower all employees to remain attentive and responsive to the ever-changing needs of our customers. Our managers are com- mitted to ensuring the highest return for investors while maintaining the highest levels of integrity and ethical standards.

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“Notable Quotes” “If you’re not faster than your competitor, you’re in a tenuous position, and if you’re only half as fast, you’re terminal.” —George Salk

“The opportunities and threats existing in any situation always exceed the resources needed to exploit the opportunities or avoid the threats. Thus, strategy is essen- tially a problem of allocating resources. If strategy is to be successful, it must allocate superior resources against a decisive opportunity.” —William Cohen

“Organizations pursue strategies that will dis- rupt the normal course of industry events and

forge new industry conditions to the disadvan- tage of competitors.” —Ian C. Macmillan

“If everyone is thinking alike, then somebody isn’t thinking.” —George Patton

“It is not the strongest of the species that survive, nor the most intelligent, but the one most responsive to change.” —Charles Darwin

“Nothing focuses the mind better than the constant sight of a competitor who wants to wipe you off the map.” —Wayne Calloway

Chapter ObjeCtives After studying this chapter, you should be able to do the following:

1. Describe how to conduct an external strategic-management audit.

2. Discuss 10 major external forces that affect organizations: economic, social, cultural, demographic, environmental, political, governmental, legal, technological, and competitive.

3. Describe key sources of external information, including the Internet.

4. Discuss important forecasting tools used in strategic management.

5. Discuss the importance of monitoring external trends and events.

6. Explain how to develop an EFE Matrix.

7. Explain how to develop a Competitive Profile Matrix.

8. Discuss the importance of gathering competitive intelligence.

9. Describe the trend toward cooperation among competitors.

10. Discuss market commonality and resource similarity in relation to competitive analysis.

assurance of Learning exercise 3a Competitive Intelligence (CI) Certification

assurance of Learning exercise 3b Develop Divisional Walt Disney EFE Matrices

assurance of Learning exercise 3C Develop an EFE Matrix for Walt Disney

assurance of Learning exercise 3D Perform an External Assessment

assurance of Learning exercise 3e Develop an EFE Matrix for My University

assurance of Learning exercise 3F Develop Divisional Walt Disney CPMs

assurance of Learning exercise 3G Develop a Competitive Profile Matrix for Walt Disney

assurance of Learning exercise 3h Develop a Competitive Profile Matrix for My University

assuranCe OF LearninG exerCises

The External Assessment

3

62 Part 2 • Strategy formulation

This chapter examines the tools and concepts needed to conduct an external strategic manage- ment audit (sometimes called environmental scanning or industry analysis). An external audit focuses on identifying and evaluating trends and events beyond the control of a single firm, such as increased foreign competition, population shifts to the Sunbelt, an aging society, consumer fear of traveling, and stock market volatility. An external audit reveals key opportunities and threats confronting an organization so that managers can formulate strategies to take advantage of the opportunities and avoid or reduce the impact of threats. This chapter presents a practical framework for gathering, assimilating, and analyzing external information. The Industrial Organization (I/O) view of strategic management is introduced.

The Chapter 3 boxed insert company pursuing strategies based on an excellent external stra- tegic analysis is Wells Fargo, the fourth-largest lender by assets in the United States.

The Nature of an External Audit The purpose of an external audit is to develop a finite list of opportunities that could benefit a firm and threats that should be avoided. As the term finite suggests, the external audit is not aimed at developing an exhaustive list of every possible factor that could influence the business; rather, it is aimed at identifying key variables that offer actionable responses. Firms should be

Excellent Strategic Management Showcased

Wells Fargo & Company

Wells Fargo reported $12.4 billion in 2010 net income, placing the company second in profits among all large commercial banks in the United States. Only JPMorgan Chase had more banking profits in 2010 than Wells Fargo. Wells Fargo is the fourth largest bank in the U.S. by assets and the second largest bank in deposits, home mortgage servic- ing, and debit cards in the United States. Wells Fargo has emerged as the king of consumer banking, rolling out profitable banking products from its “stores.” Called cross-selling, Wells Fargo’s strategy focuses heavily on selling additional products to existing customers. The com- pany in 2011 sold customers an average of 5.7 different products, up from 5.47 in 2010. An analyst at Rochdale Securities, Richard Bove, recently said “Wells Fargo has a system which every other bank in the world is now emulating. When you go into a Wells Fargo branch, they immediately hit you with some sales pitch.”

Headquartered in San Francisco, Wells Fargo originated $386 billion in new home loans in 2010 while its main competitor, Bank of America, spent more time dealing with troubled mortgages and paying $2.8 billion in the month of December alone to end some federal government loan repurchase demands. Wells Fargo has about $90 billion in unpaid princi- pal on portfolio of option—ARMS that it inherited from Wachovia, but the bank is dealing with that problem well.

Through its 187 commercial banking branches across the United States, Wells Fargo is increasing from 2,400 to over 2,700 its number of employees who focus on lending to mid-size busi- nesses. Commercial lending is a growth area of banks even though many companies have increased their cash reserves and may not need loans in the immediate future. D. Anthony Plath, a finance

professor at UNC- Charlotte, says, “Wells Fargo can pursue strategic initiatives whereas Bank of America is essentially fighting fires.”

A nation wide, diversified, financial services company with $1.3 trillion in assets, Wells Fargo was founded in 1852. The firm provides banking, insurance, invest- ments, mortgage, and consumer and commercial finance through more than 9,000 stores, 12,000 ATMs, the Internet (wellsfargo.com and wachovia.com), and other distribution channels across North America and internationally. With approximately 280,000 employees (called team members), Wells Fargo serves one in three households in America. Wells Fargo is among America’s 20 largest corporations. Wells Fargo’s vision is “to satisfy all our customers’ financial needs and help them succeed financially.”

Source: Based on Dakin Campbell, ”Wells Fargo Is Ready to Roll,” Bloomberg Business Week, January 31–February 6, 2011, 43–44. Also, Randall Smith, “In Tribute to Wells, Banks Try Hard Sell,” Wall Street Journal, February 28, 2011, C1. Also, company documents.

ChaPter 3 • the external aSSeSSment 63

Figure 3-1

A Comprehensive Strategic-Management Model

Strategy Formulation

Strategy Implementation

Strategy Evaluation

Chapter 10: Business Ethics/Social Responsibility/Environmental Sustainability Issues

Chapter 11: Global/International Issues

Measure and Evaluate Performance

Chapter 9

Implement Strategies— Marketing,

Finance, Accounting, R&D,

and MIS Issues Chapter 8

Implement Strategies—

Management Issues

Chapter 7

Develop Vision and Mission Statements Chapter 2

Establish Long-Term Objectives Chapter 5

Generate, Evaluate, and Select Strategies Chapter 6

Perform Internal Audit

Chapter 4

Perform External Audit

Chapter 3

Source: Fred R. David, “How Companies Define Their Mission,” Long Range Planning 22, no. 3 (June 1988): 40.

able to respond either offensively or defensively to the factors by formulating strategies that take advantage of external opportunities or that minimize the impact of potential threats. Figure 3-1 illustrates how the external audit fits into the strategic-management process.

Key External Forces External forces can be divided into five broad categories: (1) economic forces; (2) social, cultural, demographic, and natural environment forces; (3) political, governmental, and legal forces; (4) technological forces; and (5) competitive forces. Relationships among these forces and an organization are depicted in Figure 3-2. External trends and events, such as rising food prices and people in African countries coming online, significantly affect products, services, markets, and organizations worldwide. The U.S. unemployment rate is about 10 percent—the most since 1945 when the country downsized from the war effort. All sectors witness high unemployment rates, except for education, health-care services, and government employment. Many Americans still resort to minimum wage jobs to make ends meet.

Changes in external forces translate into changes in consumer demand for both industrial and consumer products and services. External forces affect the types of products developed,

64 Part 2 • Strategy formulation

Figure 3-2

relationships Between Key external Forces and an Organization

Competitors Suppliers

Distributors Creditors Customers Employees

Communities Managers

Stockholders Labor unions Governments

Trade associations Special interest groups

Products Services Markets

Natural environment

AN ORGANIZATION’S OPPORTUNITIES AND

THREATS

Economic forces

Social, cultural, demographic, and natural environment forces

Political, legal, and governmental forces

Technological forces

Competitive forces

the nature of positioning and market segmentation strategies, the type of services offered, and the choice of businesses to acquire or sell. External forces directly affect both suppliers and distributors. Identifying and evaluating external opportunities and threats enables organizations to develop a clear mission, to design strategies to achieve long-term objectives, and to develop policies to achieve annual objectives.

The increasing complexity of business today is evidenced by more countries developing the capacity and will to compete aggressively in world markets. Foreign businesses and countries are willing to learn, adapt, innovate, and invent to compete successfully in the marketplace. There are more competitive new technologies in Europe and Asia today than ever before.

The Process of Performing an External Audit The process of performing an external audit must involve as many managers and employees as possible. As emphasized in earlier chapters, involvement in the strategic-management process can lead to understanding and commitment from organizational members. Individuals appreci- ate having the opportunity to contribute ideas and to gain a better understanding of their firm’s industry, competitors, and markets.

To perform an external audit, a company first must gather competitive intelligence and information about economic, social, cultural, demographic, environmental, political, govern- mental, legal, and technological trends. Individuals can be asked to monitor various sources of information, such as key magazines, trade journals, and newspapers. These persons can submit periodic scanning reports to a committee of managers charged with performing the external audit. This approach provides a continuous stream of timely strategic information and involves many individuals in the external-audit process. The Internet provides another source for gathering strategic information, as do corporate, university, and public libraries. Suppliers, distributors, salespersons, customers, and competitors represent other sources of vital information.

Once information is gathered, it should be assimilated and evaluated. A meeting or series of meetings of managers is needed to collectively identify the most important opportunities and threats facing the firm. These key external factors should be listed on flip charts or a chalkboard. A prioritized list of these factors could be obtained by requesting that all managers rank the factors identified, from 1 for the most important opportunity/threat to 20 for the least important opportunity/ threat. These key external factors can vary over time and by industry. Relationships with suppliers or distributors are often a critical success factor. Other variables commonly used include market share,

ChaPter 3 • the external aSSeSSment 65

breadth of competing products, world economies, foreign affiliates, proprietary and key account advantages, price competitiveness, technological advancements, population shifts, interest rates, and pollution abatement.

Freund emphasized that these key external factors should be (1) important to achieving long-term and annual objectives, (2) measurable, (3) applicable to all competing firms, and (4) hierarchical in the sense that some will pertain to the overall company and others will be more narrowly focused on functional or divisional areas.1 A final list of the most important key external factors should be communicated and distributed widely in the organization. Both opportunities and threats can be key external factors.

The Industrial Organization (I/O) View The Industrial Organization (I/O) approach to competitive advantage advocates that external (industry) factors are more important than internal factors in a firm for achieving competitive advantage. Proponents of the I/O view, such as Michael Porter, contend that organizational performance will be primarily determined by industry forces. Porter’s Five-Forces Model, presented later in this chapter, is an example of the I/O perspective, which focuses on analyz- ing external forces and industry variables as a basis for getting and keeping competitive ad- vantage. Competitive advantage is determined largely by competitive positioning within an industry, according to I/O advocates. Managing strategically from the I/O perspective entails firms striving to compete in attractive industries, avoiding weak or faltering industries, and gaining a full understanding of key external factor relationships within that attractive industry. I/O research provides important contributions to our understanding of how to gain competitive advantage.

I/O theorists contend that external factors and the industry in which a firm competes has a stronger influence on the firm’s performance than do the internal functional issues in marketing, finance, and the like. Firm performance, they contend, is based more on industry properties such as economies of scale, barriers to market entry, product differentiation, the economy, and level of competitiveness than on internal resources, capabilities, structure, and operations. The recent global economic recession’s negative impact on both strong and weak firms added credence to the notion that external forces are more important than internal.

The I/O view has enhanced our understanding of strategic management. However, it is not a question of whether external or internal factors are more important in gaining and maintain- ing competitive advantage. Effective integration and understanding of both external and inter- nal factors is the key to securing and keeping a competitive advantage. In fact, as discussed in Chapter 6, matching key external opportunities/threats with key internal strengths/weaknesses provides the basis for successful strategy formulation.

Economic Forces The Dow Jones Industrial Average is over 10,500, corporate profits are high, dividend increases are up sharply, and emerging markets are growing in double digits. Yet, job growth is still sty- mied, home prices remain low, and millions of people work for minimum wages or are either unemployed or underemployed. Strong exports of energy and grains have farm suppliers and railroads hiring, but commodity prices are up sharply, especially food, which is contributing to rising inflation fears. Many firms are switching to the extent possible to part-time rather than full-time employees to avoid having to pay health benefits. Consumer spending rebounded nicely in 2011 from 2010.

Economic factors have a direct impact on the potential attractiveness of various strategies. For example, when interest rates rise, funds needed for capital expansion become more costly or unavailable. Also, as interest rates rise, discretionary income declines, and the demand for discretionary goods falls. When stock prices increase, the desirability of equity as a source of capital for market development increases. Also, when the market rises, consumer and business wealth expands. A summary of economic variables that often represent opportunities and threats for organizations is provided in Table 3-1.

66 Part 2 • Strategy formulation

TABle 3-1 Key Economic Variables to Be Monitored

Shift to a service economy in the United States

Availability of credit

Level of disposable income

Propensity of people to spend

Interest rates

Inflation rates

Money market rates

Federal government budget deficits

Gross domestic product trend

Consumption patterns

Unemployment trends

Worker productivity levels

Value of the dollar in world markets

Stock market trends

Foreign countries’ economic conditions

Import/export factors

Demand shifts for different categories of goods and services

Income differences by region and consumer groups

Price fluctuations

Export of labor and capital from the United States

Monetary policies

Fiscal policies

Tax rates

European Economic Community (EEC) policies

Organization of Petroleum Exporting Countries (OPEC) policies

Coalitions of Lesser Developed Countries (LDC) policies

To take advantage of Canada’s robust economy and eager-to-spend people, many firms are aggressively expanding operations into Canada, including TJX opening many Marshalls stores, Target opening 220 stores, Wal-Mart opening 40 supercenters, and Tanger Outlet Factory Centers opening five new stores in 2011. “Canada is one of the most economically prosperous countries in the world,” said Howard Davidowitz, chairman of Davidowitz & Associates, a retail consultancy and investment-banking firm. “It has a stable currency, it did not have a banking crisis and it did not spend itself into insanity.”

Trends in the dollar’s value have significant and unequal effects on companies in different industries and in different locations. For example, the pharmaceutical, tourism, entertainment, motor vehicle, aerospace, and forest products industries benefit greatly when the dollar falls against the yen and euro. Agricultural and petroleum industries are hurt by the dollar’s rise against the currencies of Mexico, Brazil, Venezuela, and Australia. Generally, a strong or high dollar makes U.S. goods more expensive in overseas markets. This worsens the U.S. trade defi- cit. When the value of the dollar falls, tourism-oriented firms benefit because Americans do not travel abroad as much when the value of the dollar is low; rather, foreigners visit and vacation more in the United States.

A low value of the dollar means lower imports and higher exports; it helps U.S. companies’ competitiveness in world markets. The dollar has fallen to five-year lows against the euro and yen, which makes U.S. goods cheaper to foreign consumers and combats deflation by push- ing up prices of imports. However, European firms such as Volkswagen AG, Nokia Corp., and Michelin complain that the strong euro hurts their financial performance. The low value of the dollar benefits the U.S. economy in many ways. First, it helps stave off the risks of deflation in the United States and also reduces the U.S. trade deficit. In addition, the low value of the dol- lar raises the foreign sales and profits of domestic firms, thanks to dollar-induced gains, and encourages foreign countries to lower interest rates and loosen fiscal policy, which stimulates worldwide economic expansion. Some sectors, such as consumer staples, energy, materials, technology, and health care, especially benefit from a low value of the dollar. Manufacturers in many domestic industries in fact benefit because of a weak dollar, which forces foreign rivals to raise prices and extinguish discounts. Domestic firms with big overseas sales, such as McDonald’s, greatly benefit from a weak dollar. Table 3-2 lists some advantages and disadvan- tages of a weak U.S. dollar for American firms.

The improving but weak economy worldwide and depressed home prices has dramati- cally slowed the migration of people from country to country and from the city to the suburbs. Because people are not moving nearly as much as in years past, there is lower and lower demand for new or used houses. Thus the housing market is expected to remain sluggish well into 2012 and 2013.

ChaPter 3 • the external aSSeSSment 67

Social, Cultural, Demographic, and Natural Environment Forces Social, cultural, demographic, and environmental changes have a major impact on virtually all products, services, markets, and customers. Small, large, for-profit, and nonprofit organizations in all industries are being staggered and challenged by the opportunities and threats arising from changes in social, cultural, demographic, and environmental variables. In every way, the United States is much different today than it was yesterday, and tomorrow promises even greater changes.

The United States is getting older and less white. The oldest members of America’s 76 million baby boomers plan to retire soon, and this has lawmakers and younger taxpay- ers deeply concerned about who will pay their Social Security, Medicare, and Medicaid. Individuals age 65 and older in the United States as a percentage of the population will rise to 18.5 percent by 2025.

By 2075, the United States will have no racial or ethnic majority. This forecast is aggra- vating tensions over issues such as immigration and affirmative action. Hawaii, California, and New Mexico already have no majority race or ethnic group. For the first time ever, the number of Hispanic people surpassed the number of whites in New Mexico in the recent 2010 census data. New Mexico’s population grew 13.2 percent to 2.06 million from 2000 to 2010. Also, people from the West Coast are seeking more affordable living in the Rocky Mountain states. For example, Idaho’s population increased 21.1 percent from 2000 to 2010 with 1.7 million people now calling Idaho home. There is a “migration for cheaper life” across the United States.

The population of the world surpassed 7.0 billion in 2011; the United States has just over 310 million people. That leaves billions of people outside the United States who may be interested in the products and services produced through domestic firms. Remaining solely domestic is an increasingly risky strategy, especially as the world population continues to grow to an estimated 8 billion in 2028 and 9 billion in 2054.

Social, cultural, demographic, and environmental trends are shaping the way Americans live, work, produce, and consume. New trends are creating a different type of consumer and, consequently, a need for different products, different services, and different strategies. There are now more American households with people living alone or with unrelated people than there are households consisting of married couples with children. American households are making more and more purchases online.

TABle 3-2 Advantages and Disadvantages of a Weak Dollar for Domestic Firms

Advantages Disadvantages

1. Leads to more exports

2. Leads to lower imports

3. Makes U.S. goods cheaper to foreign consumers

4. Combats deflation by pushing up prices of imports

5. Can contribute to rise in stock prices in short run

6. Encourages foreign countries to lower interest rates

7. Raises the revenues and profits of firms that do business outside the United States

8. Forces foreign firms to raise prices

9. Reduces the U.S. trade deficit

10. Encourages firms to globalize

11. Encourages foreigners to visit the United States

1. Can lead to inflation

2. Can cause rise in oil prices

3. Can weaken U.S. government

4. Makes it unattractive for Americans to travel globally

5. Can contribute to fall in stock prices in long run

68 Part 2 • Strategy formulation

The trend toward an older America is good news for restaurants, hotels, airlines, cruise lines, tours, resorts, theme parks, luxury products and services, recreational vehicles, home builders, furniture producers, computer manufacturers, travel services, pharmaceutical firms, automakers, and funeral homes. Older Americans are especially interested in health care, financial services, travel, crime prevention, and leisure. The world’s longest-living people are the Japanese, with Japanese women living to 86.3 years and men living to 80.1 years on average. By 2050, the Census Bureau projects that the number of Americans age 100 and older will increase to over 834,000 from just under 100,000 centenarians in the United States in 2000. Americans age 65 and over will increase from 12.6 percent of the U.S. population in 2000 to 20.0 percent by the year 2050.

The aging American population affects the strategic orientation of nearly all organi- zations. Apartment complexes for the elderly, with one meal a day, transportation, and utilities included in the rent, have increased nationwide. Called lifecare facilities, these complexes now exceed 2 million. Some well-known companies building these facilities include Avon, Marriott, and Hyatt. Individuals age 65 and older in the United States com- prise 13 percent of the total population; Japan’s elderly population ratio is 17 percent, and Germany’s is 19 percent.

Americans were on the move in a population shift to the South and Rocky Mountain states away from the Northeast and Midwest (Frostbelt), and the expensive West Coast. But the reces- sion and housing bust nationwide has slowed migration throughout the United States. More Americans are staying in place rather than moving. New jobs are the primary reason people move across state lines, so with fewer jobs, there is less need to move. Falling home prices also have prompted people to avoid moving. The historical trend of people moving from the Northeast and Midwest to the Sunbelt and West has dramatically slowed. Hard number data related to this trend can represent key opportunities for many firms and thus can be essential for successful strategy formulation, including where to locate new plants and distribution centers and where to focus marketing efforts.

A summary of important social, cultural, demographic, and environmental variables that represent opportunities or threats for virtually all organizations is given in Table 3-3.

Political, Governmental, and Legal Forces Federal, state, local, and foreign governments are major regulators, deregulators, subsidizers, employers, and customers of organizations. Political, governmental, and legal factors, there- fore, can represent key opportunities or threats for both small and large organizations. Political unrest in the Middle East threatens to raise oil prices globally, which could cause inflation. The political overthrow of monarchies in Egypt, Tunisia, and Libya is spreading to Yemen, Jordan, Syria, and other countries as people in all nations desire liberty and freedom rather than oppres- sion and suppression.

For industries and firms that depend heavily on government contracts or subsidies, political forecasts can be the most important part of an external audit. Changes in patent laws, antitrust legislation, tax rates, and lobbying activities can affect firms significantly. The increasing global interdependence among economies, markets, governments, and organizations makes it impera- tive that firms consider the possible impact of political variables on the formulation and imple- mentation of competitive strategies.

Many countries worldwide are resorting to protectionism to safeguard their own industries. European Union (EU) nations, for example, have tightened their own trade rules and resumed subsidies for various of their own industries while barring imports from certain other coun- tries. The EU recently restricted imports of U.S. chicken and beef. India is increasing tariffs on foreign steel. Russia perhaps has instituted the most protectionist measures by raising tariffs on most imports and subsidizing its own exports. Russia even imposed a new toll on trucks from the EU, Switzerland, and Turkmenistan. Despite these measures taken by other countries, the United States has largely refrained from “Buy American” policies and protectionist measures, although there are increased tariffs on French cheese and Italian water. Many economists say the current rash of trade constraints will make it harder for global economic growth to recover from the global recession.

ChaPter 3 • the external aSSeSSment 69

A political debate raging in the United States concerns sales taxes on the Internet. Wal-Mart, Target, and other large retailers are pressuring state governments to collect sales taxes from Amazon.com. Big brick-and-mortar retailers are backing a coalition called the Alliance for Main Street Fairness, which is leading political efforts to change sales-tax laws in more than a dozen states. Wal-Mart’s executive Raul Vazquez says, “The rules to- day don’t allow brick-and-mortar retailers to compete evenly with online retailers, and that needs to be addressed.”

American Labor Unions The extent that a state is unionized can be a significant political factor in strategic planning decisions as related to manufacturing plant location and other operational matters. The size of American labor unions has fallen sharply in the last decade due in large part to erosion of the U.S. manufacturing base. The single best example of this is the decline of the United Automobile Workers (UAW) as U.S. automakers and car parts suppliers went through hard times. The number of workers represented by unions in the U.S. fell from 9 percent to 6.9 percent between 2000 and 2010.

Huge declines of late in receipts of federal, state, and municipal governments has contrib- uted to a sharp decline in the membership of public-sector unions. Organized public-sector labor issues are being debated in many state legislatures. State governments seek concessions, the

TABle 3-3 Key Social, Cultural, Demographic, and Natural Environment Variables

Childbearing rates

Number of special-interest groups

Number of marriages

Number of divorces

Number of births

Number of deaths

Immigration and emigration rates

Social Security programs

Life expectancy rates

Per capita income

Location of retailing, manufacturing, and service businesses

Attitudes toward business

Lifestyles

Traffic congestion

Inner-city environments

Average disposable income

Trust in government

Attitudes toward government

Attitudes toward work

Buying habits

Ethical concerns

Attitudes toward saving

Sex roles

Attitudes toward investing

Racial equality

Use of birth control

Average level of education

Government regulation

Attitudes toward retirement

Attitudes toward leisure time

Attitudes toward product quality

Attitudes toward customer service

Pollution control

Attitudes toward foreign peoples

Energy conservation

Social programs

Number of churches

Number of church members

Social responsibility

Attitudes toward careers

Population changes by race, age, sex, and level of affluence

Attitudes toward authority

Population changes by city, county, state, region, and country

Value placed on leisure time

Regional changes in tastes and preferences

Number of women and minority workers

Number of high school and college graduates by geographic area

Recycling

Waste management

Air pollution

Water pollution

Ozone depletion

Endangered species

70 Part 2 • Strategy formulation

TABle 3-4 The Most versus the Least Unionized States

(% of Workers) Unionized

2000 to 2010 % Change in Union Membership

The Most Unionized States

1. New York 24.2% − 5.1%

2. Alaska 22.9% + 4.6%

3. Hawaii 21.8% − 12.1%

4. Washington 19.4% + 6.6%

5. California 17.5% + 9.4%

6. New Jersey 17.1% − 17.8%

7. Connecticut 16.7% + 2.5%

8. Michigan 16.5% − 20.7%

9. Rhode Island 16.4% − 9.9%

10. Oregon 16.2% + 0.6%

The Least Unionized States

1. North Carolina 3.2% − 11.1%

2. Georgia 4.04% − 36.5%

3. Arkansas 4.04% − 31.0%

4. Louisiana 4.3% − 39.4%

5. Mississippi 4.5% − 25.0%

6. Virginia 4.62% − 17.9%

7. South Carolina 4.65% + 15.0%

8. Tennessee 4.7% − 47.2%

9. Texas 5.4% − 6.9%

10. Oklahoma 5.5% − 19.1%

Source: Based on: http://247wallst.com/2011/03/10/the-states-with-the-strongest-and-weakest-unions/5/

most drastic of which may be the abolition of collective bargaining rights. Wisconsin recently passed a law eliminating most collective-bargaining rights for the state’s public-employee unions. That law sets a precedent that many other states may follow to curb union rights as a way to help state budgets become solvent. Ohio is close to passing a similar bill curbing union rights for 400,000 public workers.

The Republican majority in many state legislatures and governors’ offices makes the “declining public unionization” trend likely to continue. Public unions now face the kind of erosion that private unions did in the last decade. Local governments simply do not have sufficient tax receipts to support current union payrolls and benefits. Table 3-4 compares the most unionized states with the least unionized. Note that union membership overall dropped in most states from 2000 to 2010 due to private sector losses, but public sector union employees, on the other hand, have held their own.

Governments worldwide are under pressure to protect jobs at home and maintain the nation’s industrial base. For example, in France, Renault SA’s factory in Sandouville is one of the most unproductive auto factories in the world. However, Renault has taken $3.9 billion in low-interest loans from the French government, so the company cannot close any French facto- ries for the duration of the loan or resort to mass layoffs in France for a year.

Local, state, and federal laws; regulatory agencies; and special-interest groups can have a major impact on the strategies of small, large, for-profit, and nonprofit organizations. Many companies have altered or abandoned strategies in the past because of political or govern- mental actions. In the academic world, as state budgets have dropped in recent years, so too has state support for colleges and universities. Due to the decline in monies received from the state, many institutions of higher learning are doing more fund-raising on their own—naming buildings and classrooms, for example, for donors. A summary of political, governmental, and legal variables that can represent key opportunities or threats to organizations is provided in Table 3-5.

ChaPter 3 • the external aSSeSSment 71

Technological Forces Papa John’s International in 2012 expects to receive 50 percent of all its pizza orders through its website, up from 30 percent in 2011 and far more than the industry average of 10 percent. Technology is a key to Papa John’s success as it strives to compete with Domino’s Pizza and Pizza Hut. Papa John’s new website is interactive, where customers can see a picture of their pizza as they decide upon toppings. Papa John’s new loyalty program, called Papa Points, is promoted heavily through its new website.

Lagging behind Netflix and Redbox in technology has been disastrous for Blockbuster, which recently filed for Chapter 11 bankruptcy protection and then barely escaped liquidation before being acquired by Dish Network Corp. for $320 million. Internet streaming giant Netflix and $1 DVD movies offered by Redbox essentially forced Blockbuster to close more than 1,000 of its 3,000 stores while at the same time desperately trying to shift to digital distribution. In virtually every industry, the more technologically astute firms gain overwhelming competitive advantage over less competent rivals.

The Internet has changed the very nature of opportunities and threats by altering the life cycles of products, increasing the speed of distribution, creating new products and services, eras- ing limitations of traditional geographic markets, and changing the historical trade-off between production standardization and flexibility. The Internet is altering economies of scale, changing entry barriers, and redefining the relationship between industries and various suppliers, credi- tors, customers, and competitors.

Total Internet retail sales the last two months of 2010 jumped 15.4 percent compared to 2009. Purchases online of apparel at specialty stores increased 25 percent, even though people prefer to touch and try on garments.2 Retail sales over the Internet now account for about 10 percent of all retail sales, excluding purchases of automobiles and gas.

To effectively capitalize on e-commerce, a number of organizations are establishing two new positions in their firms: chief information officer (CIO) and chief technology officer (CTO). This trend reflects the growing importance of information technology (IT) in strategic management. A CIO and CTO work together to ensure that information needed to formulate, implement, and evaluate strategies is available where and when it is needed. These individuals are responsible for developing, maintaining, and updating a company’s information database. The CIO is more a manager, managing the firm’s relationship with stakeholders; the CTO is more a technician, focusing on technical issues such as data acquisition, data processing, decision-support systems, and software and hardware acquisition.

Technological forces represent major opportunities and threats that must be considered in formulating strategies. Technological advancements can dramatically affect organizations’ products, services, markets, suppliers, distributors, competitors, customers, manufacturing

TABle 3-5 Some Political, Governmental, and Legal Variables

Government regulations or deregulations

Changes in tax laws

Special tariffs

Political action committees

Voter participation rates

Number, severity, and location of government protests

Number of patents

Changes in patent laws

Environmental protection laws

Level of defense expenditures

Legislation on equal employment

Level of government subsidies

Antitrust legislation

Sino-American relationships

Russian-American relationships

European-American relationships

African-American relationships

Import–export regulations

Government fiscal and monetary policy changes

Political conditions in foreign countries

Special local, state, and federal laws

Lobbying activities

Size of government budgets

World oil, currency, and labor markets

Location and severity of terrorist activities

Local, state, and national elections

72 Part 2 • Strategy formulation

processes, marketing practices, and competitive position. Technological advancements can create new markets, result in a proliferation of new and improved products, change the rela- tive competitive cost positions in an industry, and render existing products and services obso- lete. Technological changes can reduce or eliminate cost barriers between businesses, create shorter production runs, create shortages in technical skills, and result in changing values and expectations of employees, managers, and customers. Technological advancements can create new competitive advantages that are more powerful than existing advantages. No com- pany or industry today is insulated against emerging technological developments. In high- tech industries, identification and evaluation of key technological opportunities and threats can be the most important part of the external strategic-management audit.

Organizations that traditionally have limited technology expenditures to what they can fund after meeting marketing and financial requirements urgently need a reversal in thinking. The pace of technological change is increasing and literally wiping out businesses every day. An emerging consensus holds that technology management is one of the key responsibilities of strategists. Firms should pursue strategies that take advantage of technological opportunities to achieve sustainable, competitive advantages in the marketplace.

In practice, critical decisions about technology too often are delegated to lower organi- zational levels or are made without an understanding of their strategic implications. Many strategists spend countless hours determining market share, positioning products in terms of features and price, forecasting sales and market size, and monitoring distributors; yet too often, technology does not receive the same respect.

Not all sectors of the economy are affected equally by technological developments. The communications, electronics, aeronautics, and pharmaceutical industries are much more volatile than the textile, forestry, and metals industries.

Competitive Forces An important part of an external audit is identifying rival firms and determining their strengths, weaknesses, capabilities, opportunities, threats, objectives, and strategies.

For example, Tupperware Brands Corp. (TBC) produces and sells household products and beauty items. TBC competes intensely with Avon Products and Newell Rubbermaid. Tupperware parties became synonymous with American suburban life in the 1950s, when independent salespeople organized gatherings to sell their plastic containers. TBC today deploys a sales force of about 2.6 million people in about 100 countries and obtains more than 80 percent of their annual $2.3 billion revenue from outside the United States. Table 3-6 compares Tupperware with its two largest competitors. Note that TBC outperforms Avon and Rubbermaid on most criteria.

Collecting and evaluating information on competitors is essential for successful strat- egy formulation. Identifying major competitors is not always easy because many firms have divisions that compete in different industries. Many multidivisional firms do not provide sales and profit information on a divisional basis for competitive reasons. Also, privately- held firms do not publish any financial or marketing information. Addressing questions about competitors such as those presented in Table 3-7 is important in performing an external audit.

Competition in virtually all industries can be described as intense—and sometimes as cutthroat. For example, Walgreens and CVS pharmacies are located generally across the street from each other and battle each other every day on price and customer service. Most automobile dealerships also are located close to each other. Dollar General, based in Goodlettsville, Tennessee, and Family Dollar, based in Matthews, North Carolina, compete intensely on price to attract customers away from each other and away from Wal-Mart. Best Buy dropped prices wherever possible to finally put Circuit City totally out of business.

Seven characteristics describe the most competitive companies:

1. Market share matters; the 90th share point isn’t as important as the 91st, and nothing is more dangerous than falling to 89.

2. Understand and remember precisely what business you are in. 3. Whether it’s broke or not, fix it—make it better; not just products, but the whole company,

if necessary.

ChaPter 3 • the external aSSeSSment 73

TABle 3-6 An Actual CPM for Tupperware

TUPPERWARE aVon RUBBERMAID

Critical Success Factors Weight Rating Score Rating Score Rating Score

Advertising 0.15 1 0.15 3 0.45 4 0.60

Customer Service

0.03 3 0.09 2 0.06 1 0.03

Price Competitiveness

0.05 2 0.01 3 0.15 4 0.20

Top Management Expertise

0.14 4 0.56 3 0.42 2 0.28

Product Quality 0.08 4 0.32 3 0.24 2 0.16

E-commerce 0.09 1 0.09 3 0.27 2 0.18

Financial Position

0.15 4 0.60 3 0.45 2 0.30

Customer Loyalty

0.04 4 0.16 3 0.12 1 0.04

Global Expansion

0.08 4 0.32 2 0.16 1 0.08

Sales Distribution

0.06 4 0.24 2 0.12 1 0.06

Market Share 0.08 2 0.16 4 0.32 3 0.24

Product Line Offerings

0.05 4 0.20 2 0.10 3 0.15

Total 1.00 2.99 2.86 2.32

Source: Based on information provided by Eddie Guzman and David Campbell Jr.

TABle 3-7 Key Questions About Competitors

1. What are the major competitors’ strengths?

2. What are the major competitors’ weaknesses?

3. What are the major competitors’ objectives and strategies?

4. How will the major competitors most likely respond to current economic, social, cultural, demographic, environmental, political, governmental, legal, technological, and competitive trends affecting our industry?

5. How vulnerable are the major competitors to our alternative company strategies?

6. How vulnerable are our alternative strategies to successful counterattack by our major competitors?

7. How are our products or services positioned relative to major competitors?

8. To what extent are new firms entering and old firms leaving this industry?

9. What key factors have resulted in our present competitive position in this industry?

10. How have the sales and profit rankings of major competitors in the industry changed over recent years? Why have these rankings changed that way?

11. What is the nature of supplier and distributor relationships in this industry?

12. To what extent could substitute products or services be a threat to competitors in this industry?

4. Innovate or evaporate; particularly in technology-driven businesses, nothing quite recedes like success.

5. Acquisition is essential to growth; the most successful purchases are in niches that add a technology or a related market.

6. People make a difference; tired of hearing it? Too bad. 7. There is no substitute for quality and no greater threat than failing to be cost-competitive

on a global basis.3

74 Part 2 • Strategy formulation

Competitive Intelligence Programs What is competitive intelligence? Competitive intelligence (CI), as formally defined by the Society of Competitive Intelligence Professionals (SCIP), is a systematic and ethical process for gathering and analyzing information about the competition’s activities and general business trends to further a business’s own goals (SCIP website).

Good competitive intelligence in business, as in the military, is one of the keys to suc- cess. The more information and knowledge a firm can obtain about its competitors, the more likely it is that it can formulate and implement effective strategies. Major competitors’ weak- nesses can represent external opportunities; major competitors’ strengths may represent key threats.

Starwood Hotels & Resorts Worldwide recently sued Hilton Hotels Corp. for allegedly stealing more than 100,000 confidential electronic and paper documents containing “Starwood’s most competitively sensitive information.” The complaint alleges that two Starwood executives, Ross Klein and Amar Lalvani, resigned from Starwood to join Hilton and took this informa- tion with them. The legal complaint says, “This is the clearest imaginable case of corporate espionage, theft of trade secrets, unfair competition and computer fraud.” In addition to mone- tary awards, Starwood is seeking to force Hilton to cancel the rollout of the Denizen hotel chain. Hilton is owned by Blackstone Group.

Hiring top executives from rival firms is also a way companies obtain competitive intel- ligence. Just two days after Facebook’s COO, Owen Van Natta, left the company, he accepted the CEO job at Myspace, replacing then CEO and cofounder Chris DeWolfe. Van Natta had previously also been Facebook’s COO, chief revenue officer, and vice president of operations. Google Inc. is losing top staff to Facebook, Twitter, and LinkedIn, which are all private com- panies that can lure top engineers and executives with pre-IPO stock. For example, Facebook’s COO, Sheryl Sandberg, was previously Google’s vice president of online sales and operations, and Facebook’s VP of advertising and global operations, David Fischer, previously held that same position at Google. In 2010 alone, Facebook went from 1,000 employees to 2,000, Twitter went from 100 to 300, and LinkedIn went from 450 to 900.

Many U.S. executives grew up in times when U.S. firms dominated foreign competitors so much that gathering competitive intelligence did not seem worth the effort. Too many of these executives still cling to these attitudes—to the detriment of their organizations today. Even most MBA programs do not offer a course in competitive and business intelligence, thus reinforcing this attitude. As a consequence, three strong misperceptions about business intelligence prevail among U.S. executives today:

1. Running an intelligence program requires lots of people, computers, and other resources. 2. Collecting intelligence about competitors violates antitrust laws; business intelligence

equals espionage. 3. Intelligence gathering is an unethical business practice.4

Any discussions with a competitor about price, market, or geography intentions could violate antitrust statutes. However, this fact must not lure a firm into underestimating the need for and benefits of systematically collecting information about competitors for strategic plan- ning purposes. The Internet is an excellent medium for gathering competitive intelligence. Information gathering from employees, managers, suppliers, distributors, customers, creditors, and consultants also can make the difference between having superior or just average intelli- gence and overall competitiveness.

Firms need an effective competitive intelligence (CI) program. The three basic objectives of a CI program are (1) to provide a general understanding of an industry and its competitors, (2) to identify areas in which competitors are vulnerable and to assess the impact strategic actions would have on competitors, and (3) to identify potential moves that a competitor might make that would endanger a firm’s position in the market.5 Competitive information is equally applicable for strategy formulation, implementation, and evaluation decisions. An effective CI program allows all areas of a firm to access consistent and verifiable information in making decisions. All members of an organization—from the chief executive officer to custodians—are valuable intelligence agents and should feel themselves to be a part of the CI process. Special

ChaPter 3 • the external aSSeSSment 75

characteristics of a successful CI program include flexibility, usefulness, timeliness, and cross- functional cooperation.

The increasing emphasis on competitive analysis in the United States is evidenced by cor- porations putting this function on their organizational charts under job titles such as Director of Competitive Analysis, Competitive Strategy Manager, Director of Information Services, or Associate Director of Competitive Assessment. The responsibilities of a director of competitive analysis include planning, collecting data, analyzing data, facilitating the process of gathering and analyzing data, disseminating intelligence on a timely basis, researching special issues, and recognizing what information is important and who needs to know. Competitive intelligence is not corporate espionage because 95 percent of the information a company needs to make strategic decisions is available and accessible to the public. Sources of competitive informa- tion include trade journals, want ads, newspaper articles, and government filings, as well as customers, suppliers, distributors, competitors themselves, and the Internet.

Unethical tactics such as bribery, wiretapping, and computer hacking should never be used to obtain information. Marriott and Motorola—two U.S. companies that do a particularly good job of gathering competitive intelligence—agree that all the information you could wish for can be collected without resorting to unethical tactics.

Hilton Worldwide, Inc. is banned in 2011 and 2012 from creating a luxury “lifestyle” hotel (Denizen) under an agreement to settle a corporate-espionage lawsuit that stemmed from Hilton allegedly stealing confidential documents from rival Starwood Hotels & Resorts regarding their exclusive W Hotel. Also as part of the settlement, Hilton is paying Starwood an undisclosed amount of money.

Market Commonality and Resource Similarity By definition, competitors are firms that offer similar products and services in the same market. Markets can be geographic or product areas or segments. For example, in the insur- ance industry the markets are broken down into commercial/consumer, health/life, or Europe/ Asia. Researchers use the terms market commonality and resource similarity to study rivalry among competitors. Market commonality can be defined as the number and significance of markets that a firm competes in with rivals.6 Resource similarity is the extent to which the type and amount of a firm’s internal resources are comparable to a rival.7 One way to analyze competitiveness between two or among several firms is to investigate market commonality and resource similarity issues while looking for areas of potential competitive advantage along each firm’s value chain.

Competitive Analysis: Porter’s Five-Forces Model As illustrated in Figure 3-3, Porter’s Five-Forces Model of competitive analysis is a widely used approach for developing strategies in many industries. The intensity of competition among firms varies widely across industries. Table 3-8 reveals the average gross profit mar- gin and earnings per share for firms in different industries. Note the substantial variation among industries. For example, note that gross profit margin ranges from 59.28 percent to 24.50 percent, while EPS ranges from $2.45 to $0.18. Note that brick and mortar bookstores have the lowest EPS, which implies fierce competition in that industry. Intensity of com- petition is highest in lower-return industries. The collective impact of competitive forces is so brutal in some industries that the market is clearly “unattractive” from a profit-making standpoint. Rivalry among existing firms is severe, new rivals can enter the industry with relative ease, and both suppliers and customers can exercise considerable bargaining lever- age. According to Porter, the nature of competitiveness in a given industry can be viewed as a composite of five forces:

1. Rivalry among competing firms 2. Potential entry of new competitors 3. Potential development of substitute products 4. Bargaining power of suppliers 5. Bargaining power of consumers

76 Part 2 • Strategy formulation

TABle 3-8 Competitiveness Across a Few Industries (year-end 2010 data)

gross Profit margin (%) ePS ($)

Pharmaceutical 59.28 1.63

Telecommunications 57.37 0.76

Fragrances/Cosmetics 46.12 1.16

Banking 30.78 0.09

Bookstores 35.78 0.18

Food Manufacturers 30.54 0.65

Oil and Gas 32.96 1.68

Airlines 29.59 0.69

Machinery/Construction 27.53 2.45

Paper Products 24.50 1.38

Source: Based on information at www.finance.yahoo.com retrieved on May 10, 2011.

The following three steps for using Porter’s Five-Forces Model can indicate whether competition in a given industry is such that the firm can make an acceptable profit:

1. Identify key aspects or elements of each competitive force that impact the firm. 2. Evaluate how strong and important each element is for the firm. 3. Decide whether the collective strength of the elements is worth the firm entering or staying

in the industry.

Rivalry Among Competing Firms Rivalry among competing firms is usually the most powerful of the five competitive forces. The strategies pursued by one firm can be successful only to the extent that they provide competitive advantage over the strategies pursued by rival firms. Changes in strategy by one firm may be met with retaliatory countermoves, such as lowering prices, enhancing quality, adding features, providing services, extending warranties, and increasing advertising.

The Internet, coupled with the common currency in Europe, enables consumers to make price comparisons easily across countries. Just for a moment, consider the implications for car dealers who used to know everything about a new car’s pricing, while you, the consumer, knew very little. You could bargain, but being in the dark, you rarely could win. Now you can shop online in a few hours at every dealership within 500 miles to find the best price and terms. So you, the consumer, can win. This is true in many, if not most, business-to-consumer and business-to-business sales transactions today.

Figure 3-3

The Five-Forces Model of Competition

Potential development of substitute products

Bargaining power of consumersBargaining power of suppliers

Potential entry of new competitors

Rivalry among competing firms

ChaPter 3 • the external aSSeSSment 77

The intensity of rivalry among competing firms tends to increase as the number of competitors increases, as competitors become more equal in size and capability, as demand for the industry’s products declines, and as price cutting becomes common. Rivalry also in- creases when consumers can switch brands easily; when barriers to leaving the market are high; when fixed costs are high; when the product is perishable; when consumer demand is growing slowly or declines such that rivals have excess capacity and/or inventory; when the products being sold are commodities (not easily differentiated, such as gasoline); when rival firms are diverse in strategies, origins, and culture; and when mergers and acquisitions are common in the industry. As rivalry among competing firms intensifies, industry profits decline, in some cases to the point where an industry becomes inherently unattractive. When rival firms sense weakness, typically they will intensify both marketing and production efforts to capitalize on the “opportunity.” Table 3-9 summarizes conditions that cause high rivalry among competing firms.

Potential Entry of New Competitors Whenever new firms can easily enter a particular industry, the intensity of competitiveness among firms increases. Barriers to entry, however, can include the need to gain economies of scale quickly, the need to gain technology and specialized know-how, the lack of experience, strong customer loyalty, strong brand preferences, large capital requirements, lack of adequate distribution channels, government regulatory policies, tariffs, lack of access to raw materials, possession of patents, undesirable locations, counterattack by entrenched firms, and potential saturation of the market.

Despite numerous barriers to entry, new firms sometimes enter industries with higher-quality products, lower prices, and substantial marketing resources. The strategist’s job, therefore, is to identify potential new firms entering the market, to monitor the new rival firms’ strategies, to counterattack as needed, and to capitalize on existing strengths and opportunities. When the threat of new firms entering the market is strong, incumbent firms generally fortify their positions and take actions to deter new entrants, such as lowering prices, extending warranties, adding features, or offering financing specials.

Potential Development of Substitute Products In many industries, firms are in close competition with producers of substitute products in other industries. Examples are plastic container producers competing with glass, paperboard, and aluminum can producers, and acetaminophen manufacturers competing with other manufactur- ers of pain and headache remedies. The presence of substitute products puts a ceiling on the

TABle 3-9 Conditions That Cause High Rivalry Among Competing Firms

1. High number of competing firms

2. Similar size of firms competing

3. Similar capability of firms competing

4. Falling demand for the industry’s products

5. Falling product/service prices in the industry

6. When consumers can switch brands easily

7. When barriers to leaving the market are high

8. When barriers to entering the market are low

9. When fixed costs are high among firms competing

10. When the product is perishable

11. When rivals have excess capacity

12. When consumer demand is falling

13. When rivals have excess inventory

14. When rivals sell similar products/services

15. When mergers are common in the industry

78 Part 2 • Strategy formulation

price that can be charged before consumers will switch to the substitute product. Price ceilings equate to profit ceilings and more intense competition among rivals. Producers of eyeglasses and contact lenses, for example, face increasing competitive pressures from laser eye surgery. Producers of sugar face similar pressures from artificial sweeteners. Newspapers and magazines face substitute-product competitive pressures from the Internet and 24-hour cable television. The magnitude of competitive pressure derived from the development of substitute products is generally evidenced by rivals’ plans for expanding production capacity, as well as by their sales and profit growth numbers.

Competitive pressures arising from substitute products increase as the relative price of substitute products declines and as consumers’ costs of switching decrease. The competitive strength of substitute products is best measured by the inroads into the market share those prod- ucts obtain, as well as those firms’ plans for increased capacity and market penetration.

For example, circulation of U.S. newspapers continues to drop drastically, with the excep- tion of the Wall Street Journal and a few other bright spots. The growing popularity of free news on the web and more timely news online are two key factors negatively impacting traditional papers such as the New York Times, Los Angeles Times, and others.

Bargaining Power of Suppliers The bargaining power of suppliers affects the intensity of competition in an industry, especially when there is a large number of suppliers, when there are only a few good substitute raw materi- als, or when the cost of switching raw materials is especially high. It is often in the best interest of both suppliers and producers to assist each other with reasonable prices, improved quality, development of new services, just-in-time deliveries, and reduced inventory costs, thus enhanc- ing long-term profitability for all concerned.

Firms may pursue a backward integration strategy to gain control or ownership of suppliers. This strategy is especially effective when suppliers are unreliable, too costly, or not capable of meeting a firm’s needs on a consistent basis. Firms generally can negotiate more favorable terms with suppliers when backward integration is a commonly used strategy among rival firms in an industry.

However, in many industries it is more economical to use outside suppliers of component parts than to self-manufacture the items. This is true, for example, in the outdoor power equip- ment industry, where producers of lawn mowers, rotary tillers, leaf blowers, and edgers such as Murray generally obtain their small engines from outside manufacturers such as Briggs & Stratton that specialize in such engines and have huge economies of scale.

In more and more industries, sellers are forging strategic partnerships with select suppliers in efforts to (1) reduce inventory and logistics costs (e.g., through just-in-time deliveries); (2) speed the availability of next-generation components; (3) enhance the quality of the parts and components being supplied and reduce defect rates; and (4) squeeze out important cost savings for both themselves and their suppliers.8

Bargaining Power of Consumers When customers are concentrated or large in number or buy in volume, their bargaining power represents a major force affecting the intensity of competition in an industry. Rival firms may offer extended warranties or special services to gain customer loyalty whenever the bargain- ing power of consumers is substantial. Bargaining power of consumers also is higher when the products being purchased are standard or undifferentiated. When this is the case, consum- ers often can negotiate selling price, warranty coverage, and accessory packages to a greater extent.

The bargaining power of consumers can be the most important force affecting competitive advantage. Consumers gain increasing bargaining power under the following circumstances:

1. If they can inexpensively switch to competing brands or substitutes 2. If they are particularly important to the seller 3. If sellers are struggling in the face of falling consumer demand 4. If they are informed about sellers’ products, prices, and costs 5. If they have discretion in whether and when they purchase the product9

ChaPter 3 • the external aSSeSSment 79

Sources of External Information A wealth of strategic information is available to organizations from both published and unpub- lished sources. Unpublished sources include customer surveys, market research, speeches at pro- fessional and shareholders’ meetings, television programs, interviews, and conversations with stakeholders. Published sources of strategic information include periodicals, journals, reports, government documents, abstracts, books, directories, newspapers, and manuals. The Internet has made it easier for firms to gather, assimilate, and evaluate information.

There are many excellent websites for gathering strategic information, but six that the author uses routinely are listed here:

1. http://marketwatch.multexinvestor.com 2. http://moneycentral.msn.com 3. http://finance.yahoo.com 4. www.clearstation.com 5. http://us.etrade.com/e/t/invest/markets 6. www.hoovers.com 7. http://globaledge.msu.edu/industries/

An excellent source of industry information is provided by Michigan State University at http://globaledge.msu.edu/industries/ as indicated above. Industry Profiles provided at that site are an excellent source for information, news, events, and statistical data for any industry. In addition to a wealth of indices, risk assessments, and interactive trade information, a wide array of global resources are provided.

Most college libraries subscribe to Standard & Poor’s (S&P’s) Industry Surveys. These documents are exceptionally up-to-date and give valuable information about many different industries. Each report is authored by a Standard & Poor’s industry research analyst and includes the following sections:

1. Current Environment 2. Industry Trends 3. How the Industry Operates 4. Key Industry Ratios and Statistics 5. How to Analyze a Company 6. Glossary of Industry Terms 7. Additional Industry Information 8. References 9. Comparative Company Financial Analysis

Forecasting Tools and Techniques Boeing announced in early 2011 that it forecasts China to need 4,330 new commercial air- planes valued at $480 billion over the next 20 years, making China the world’s second-largest airplane market after the United States. Boeing projects that China’s airplane market will grow at nearly twice the rate of the rest of the industry globally. Based on these forecasts, Boeing plans to grow its 52 percent airplane market share in China by producing more single-isle jet planes.

Forecasts are educated assumptions about future trends and events. Forecasting is a complex activity because of factors such as technological innovation, cultural changes, new products, improved services, stronger competitors, shifts in government priorities, changing social values, unstable economic conditions, and unforeseen events. Managers often must rely on published forecasts to effectively identify key external opportunities and threats.

A sense of the future permeates all action and underlies every decision a person makes. People eat expecting to be satisfied and nourished in the future. People sleep assuming that in the future they will feel rested. They invest energy, money, and time because they believe their efforts will be rewarded in the future. They build highways assuming that automobiles and trucks will need them in the future. Parents educate children on the basis of forecasts that they will need certain skills, attitudes, and knowledge when they grow up. The truth is we all

80 Part 2 • Strategy formulation

make implicit forecasts throughout our daily lives. The question, therefore, is not whether we should forecast but rather how we can best forecast to enable us to move beyond our ordinarily unarticulated assumptions about the future. Can we obtain information and then make educated assumptions (forecasts) to better guide our current decisions to achieve a more desirable future state of affairs? We should go into the future with our eyes and our minds open, rather than stumble into the future with our eyes closed.10

Sometimes organizations must develop their own projections. Most organizations forecast (project) their own revenues and profits annually. Organizations sometimes forecast market share or customer loyalty in local areas. Because forecasting is so important in strategic manage- ment and because the ability to forecast (in contrast to the ability to use a forecast) is essential, selected forecasting tools are examined further here.

Forecasting tools can be broadly categorized into two groups: quantitative techniques and qualitative techniques. Quantitative forecasts are most appropriate when historical data are available and when the relationships among key variables are expected to remain the same in the future. Linear regression, for example, is based on the assumption that the future will be just like the past—which, of course, it never is. As historical relationships become less stable, quantitative forecasts become less accurate.

No forecast is perfect, and some forecasts are even wildly inaccurate. This fact accents the need for strategists to devote sufficient time and effort to study the underlying bases for published forecasts and to develop internal forecasts of their own. Key external opportunities and threats can be effectively identified only through good forecasts. Accurate forecasts can provide major competitive advantages for organizations. Forecasts are vital to the strategic-management process and to the success of organizations.

Making Assumptions Planning would be impossible without assumptions. McConkey defines assumptions as the “best present estimates of the impact of major external factors, over which the manager has little if any control, but which may exert a significant impact on performance or the ability to achieve desired results.”11 Strategists are faced with countless variables and imponderables that can be neither controlled nor predicted with 100 percent accuracy. Wild guesses should never be made in formulating strategies, but reasonable assumptions based on available information must always be made.

By identifying future occurrences that could have a major effect on the firm and by mak- ing reasonable assumptions about those factors, strategists can carry the strategic-management process forward. Assumptions are needed only for future trends and events that are most likely to have a significant effect on the company’s business. Based on the best information at the time, assumptions serve as checkpoints on the validity of strategies. If future occurrences deviate significantly from assumptions, strategists know that corrective actions may be needed. Without reasonable assumptions, the strategy-formulation process could not proceed effectively. Firms that have the best information generally make the most accurate assumptions, which can lead to major competitive advantages.

Industry Analysis: The External Factor Evaluation (EFE) Matrix An External Factor Evaluation (EFE) Matrix allows strategists to summarize and evaluate eco- nomic, social, cultural, demographic, environmental, political, governmental, legal, technologi- cal, and competitive information. Illustrated in Table 3-10, the EFE Matrix can be developed in five steps:

1. List key external factors as identified in the external-audit process. Include a total of 15 to 20 factors, including both opportunities and threats, that affect the firm and its industry. List the opportunities first and then the threats. Be as specific as possible, using percentages, ratios, and comparative numbers whenever possible. Recall that Edward Deming said, “In God we trust. Everyone else bring data.”

2. Assign to each factor a weight that ranges from 0.0 (not important) to 1.0 (very impor- tant). The weight indicates the relative importance of that factor to being successful in

ChaPter 3 • the external aSSeSSment 81

TABle 3-10 EFE Matrix for a Local Ten-Theater Cinema Complex

Key External Factors Weight Rating Weighted

Score

Opportunities

1. Rowan County is growing 8% annually in population 0.05 3 0.15

2. TDB University is expanding 6% annually 0.08 4 0.32

3. Major competitor across town recently ceased operations 0.08 3 0.24

4. Demand for going to cinema growing 10% annually 0.07 2 0.14

5. Two new neighborhoods being developed within 3 miles 0.09 1 0.09

6. Disposable income among citizens grew 5% in prior year 0.06 3 0.18

7. Unemployment rate in county declined to 3.1% 0.03 2 0.06

Threats

8. Trend toward healthy eating eroding concession sales 0.12 4 0.48

9. Demand for online movies and DVDs growing 10% annually 0.06 2 0.12

10. Commercial property adjacent to cinemas for sale 0.06 3 0.18

11. TDB University installing an on-campus movie theater 0.04 3 0.12

12. County and city property taxes increasing 25% this year 0.08 2 0.16

13. Local religious groups object to R-rated movies being shown 0.04 3 0.12

14. Movies rented from local Blockbuster store up 12% 0.08 2 0.16

15. Movies rented last quarter from Time Warner up 15% 0.06 1 0.06

Total 1.00 2.58

the firm’s industry. Opportunities often receive higher weights than threats, but threats can receive high weights if they are especially severe or threatening. Appropriate weights can be determined by comparing successful with unsuccessful competitors or by discuss- ing the factor and reaching a group consensus. The sum of all weights assigned to the factors must equal 1.0.

3. Assign a rating between 1 and 4 to each key external factor to indicate how effectively the firm’s current strategies respond to the factor, where 4 = the response is superior, 3 = the response is above average, 2 = the response is average, and 1 = the response is poor. Ratings are based on effectiveness of the firm’s strategies. Ratings are thus company-based, whereas the weights in Step 2 are industry-based. It is important to note that both threats and opportu- nities can receive a 1, 2, 3, or 4.

4. Multiply each factor’s weight by its rating to determine a weighted score. 5. Sum the weighted scores for each variable to determine the total weighted score for the

organization.

Regardless of the number of key opportunities and threats included in an EFE Matrix, the highest possible total weighted score for an organization is 4.0 and the lowest possible total weighted score is 1.0. The average total weighted score is 2.5. A total weighted score of 4.0 indicates that an organization is responding in an outstanding way to existing opportunities and threats in its industry. In other words, the firm’s strategies effectively take advantage of exist- ing opportunities and minimize the potential adverse effects of external threats. A total score of 1.0 indicates that the firm’s strategies are not capitalizing on opportunities or avoiding external threats.

An example of an EFE Matrix is provided in Table 3-10 for a local 10-theater cinema com- plex. Note that the most important factor to being successful in this business is “Trend toward healthy eating eroding concession sales” as indicated by the 0.12 weight. Also note that the lo- cal cinema is doing excellent in regard to handling two factors, “TDB University is expanding 6 percent annually” and “Trend toward healthy eating eroding concession sales.” Perhaps the cinema is placing flyers on campus and also adding yogurt and healthy drinks to its concession menu. Note that you may have a 1, 2, 3, or 4 anywhere down the Rating column. Note also

82 Part 2 • Strategy formulation

TABle 3-11 An Actual External Factor Evaluation Matrix for UPS, Inc.

opportunities Weight Rating Wt. Score

1. Europe accounts for ~50% of international revenue 0.04 4 0.16

2. Africa is becoming commercially developed 0.03 2 0.06

3. >24 alliances with Asian delivery companies 0.07 2 0.14

4. International market growing 10% faster than U.S. 0.03 4 0.12

5. Customers outsourcing up to 100% of supply chain to lower cost

0.10 3 0.30

6. Increased international usage of wireless access tracking information

0.03 2 0.06

7. Telematics technology in ~12,000 U.S. UPS vehicles 0.03 2 0.06

8. Hybrid vehicles are available to add to the growing UPS alternative fuel vehicle (AFV) fleet

0.06 3 0.18

9. Only 43.2% of employees are not affiliated with a union 0.07 2 0.14

10. Direct-to-consumer business models require delivery services to be 100% effective

0.03 2 0.06

Threats

11. Incurred $77 million charge on foreign currency obligations

0.10 3 0.30

12. Jet and diesel fuel price variations cause fluctuations in surcharges from a 13% increase to a 21.2% decrease

0.08 3 0.24

13. Adverse currency exchange rate fluctuation (7.2% decline for the year)

0.03 2 0.06

14. FASB guidance requires re-measurement of pension and benefit plans = $44 million reduction to income

0.04 1 0.04

15. 1% change in health care cost trend rates = increase in post-retirement benefit obligation of $83 million

0.06 3 0.18

16. Joint venture partner for Dubai owns 20% put option 0.03 2 0.06

17. Undistributed earnings of non-U.S. subs ~$2.2 billion 0.05 2 0.10

18. Consumers expect “green business operations” 0.04 3 0.12

19. U.S. unemployment rates continue holding near 10% 0.03 2 0.06

20. FedEx has greater international presence (27% compared to UPS 24% of total revenues)

0.05 3 0.15

Totals 1.00 2.59

that the factors are stated in quantitative terms to the extent possible, rather than being stated in vague terms. Quantify the factors as much as possible in constructing an EFE Matrix. Finally, note that the total weighted score of 2.58 is above the average (midpoint) of 2.5, so this cinema business is doing pretty well, taking advantage of the external opportunities and avoiding the threats facing the firm. There is definitely room for improvement, though, because the highest total weighted score would be 4.0. As indicated by ratings of 1, this business needs to capital- ize more on the “two new neighborhoods nearby” opportunity and the “movies rented from Time Warner” threat. Note also that there are many percentage-based factors among the group. Be quantitative to the extent possible! Note also that the ratings range from 1 to 4 on both the opportunities and threats.

An External Factor Evaluation (EFE) Matrix for UPS, Inc. is provided in Table 3-11. Note that “customers outsourcing their supply chain” and “foreign currency obligations” were con- sidered by this researcher to be the most important factors in this industry, as indicated by the 0.10 weight values. UPS does best however on opportunity #1 and #4. Overall, UPS does better internally than externally since the total score of 2.59 is a bit less than the upcoming analogous IFE Matrix in the next chapter.

ChaPter 3 • the external aSSeSSment 83

TABle 3-12 An Example Competitive Profile Matrix

Company 1 Company 2 Company 3

Critical Success Factors Weight Rating Score Rating Score Rating Score

Advertising 0.20 1 0.20 4 0.80 3 0.60

Product Quality 0.10 4 0.40 3 0.30 2 0.20

Price Competitiveness 0.10 3 0.30 2 0.20 1 0.10

Management 0.10 4 0.40 3 0.20 1 0.10

Financial Position 0.15 4 0.60 2 0.30 3 0.45

Customer Loyalty 0.10 4 0.40 3 0.30 2 0.20

Global Expansion 0.20 4 0.80 1 0.20 2 0.40

Market Share 0.05 1 0.05 4 0.20 3 0.15

Total 1.00 3.15 2.50 2.20

Note: (1) The ratings values are as follows: 1 = major weakness, 2 = minor weakness, 3 = minor strength, 4 = major strength. (2) As indicated by the total weighted score of 2.50, Competitor 2 is weakest. (3) Only eight critical success factors are included for simplicity; this is too few in actuality.

The Competitive Profile Matrix (CPM) The Competitive Profile Matrix (CPM) identifies a firm’s major competitors and its particular strengths and weaknesses in relation to a sample firm’s strategic position. The weights and total weighted scores in both a CPM and an EFE have the same meaning. However, criti- cal success factors in a CPM include both internal and external issues; therefore, the ratings refer to strengths and weaknesses, where 4 = major strength, 3 = minor strength, 2 = minor weakness, and 1 = major weakness. The critical success factors in a CPM are not grouped into opportunities and threats as they are in an EFE. In a CPM, the ratings and total weighted scores for rival firms can be compared to the sample firm. This comparative analysis provides important internal strategic information. Avoid assigning the same rating to firms included in your CPM analysis.

A sample Competitive Profile Matrix is provided in Table 3-12. In this example, the two most important factors to being successful in the industry are “advertising” and “global expan- sion,” as indicated by weights of 0.20. If there were no weight column in this analysis, note that each factor then would be equally important. Thus, having a weight column makes for a more robust analysis, because it enables the analyst to assign higher and lower numbers to capture perceived or actual levels of importance. Note in Table 3-12 that Company 1 is strongest on “product quality,” as indicated by a rating of 4, whereas Company 2 is strongest on “advertis- ing.” Overall, Company 1 is strongest, as indicated by the total weighted score of 3.15 and Company 3 is weakest.

Other than the critical success factors listed in the example CPM, factors often included in this analysis include breadth of product line, effectiveness of sales distribution, proprietary or patent advantages, location of facilities, production capacity and efficiency, experience, union relations, technological advantages, and e-commerce expertise.

A word on interpretation: Just because one firm receives a 3.20 rating and another receives a 2.80 rating in a Competitive Profile Matrix, it does not follow that the first firm is 20 percent better than the second. Numbers reveal the relative strengths of firms, but their implied precision is an illusion. Numbers are not magic. The aim is not to arrive at a single number, but rather to assimilate and evaluate information in a meaningful way that aids in decision making.

Another Competitive Profile Matrix is provided in Table 3-13. Note that Company 2 has the best product quality and management experience; Company 3 has the best market share and inventory system; and Company 1 has the best price as indicated by the ratings. Again, avoid assigning duplicate ratings on any row in a CPM.

84 Part 2 • Strategy formulation

TABle 3-14 An Actual Competitive Profile Matrix for UPS, Inc.

uPS FedEx

Critical Success Factors Weight Rating Score Rating Score

Advertising 0.05 4 0.20 3 0.15

Organization Structure

0.08 2 0.16 1 0.08

Customer Service 0.10 4 0.40 3 0.30

Global Expansion 0.07 4 0.28 3 0.21

Financial Position 0.10 4 0.40 3 0.40

Employee Dedication

0.08 4 0.32 3 0.24

Management Experience

0.10 4 0.40 3 0.30

Customer Loyalty 0.10 4 0.40 3 0.30

Market Share 0.10 4 0.40 3 0.30

Product Quality 0.08 3 0.24 2 0.16

E-commerce 0.06 2 0.12 3 0.18

Price Competitiveness

0.08 4 0.32 2 0.16

Total 1.00 3.64 2.78

The Competitive Profile Matrix provided in Table 3-14 was developed for UPS and com- pares that company to its major rival, Federal Express. Note this analysis reveals UPS to be stronger than FedEx in all areas considered except e-commerce.

Special Note To Students In developing and presenting your external assessment for the firm, be mindful that gaining and sustaining competitive advantage is the overriding purpose of developing the opportunity/threat lists, value chain, EFEM, and CPM. During this section of your written or oral project, empha- size how and why particular factors can yield competitive advantage for the firm. In other words,

TABle 3-13 Another Example Competitive Profile Matrix

Company 1 Company 2 Company 3

Critical Success Factors Weight Rating

Weighted Score Rating

Weighted Score Rating

Weighted Score

Market Share 0.15 3 0.45 2 0.30 4 0.60

Inventory System 0.08 2 0.16 1 0.08 4 0.32

Financial Position 0.10 2 0.20 3 0.30 4 0.40

Product Quality 0.08 3 0.24 4 0.32 2 .16

Consumer Loyalty 0.02 3 0.06 1 0.02 4 0.08

Sales Distribution 0.10 3 0.30 2 0.20 4 .40

Global Expansion 0.15 3 0.45 2 0.30 4 0.60

Organization Structure 0.05 3 0.15 4 0.20 2 0.10

Production Capacity 0.04 3 0.12 2 0.08 4 0.16

E-commerce 0.10 3 0.30 1 0.10 4 0.40

Customer Service 0.10 3 0.30 2 0.20 4 0.40

Price Competitive 0.02 4 0.08 1 0.02 3 0.06

Management Experience 0.01 2 0.02 4 0.04 3 .03

Total 1.00 2.83 2.16 3.69

ChaPter 3 • the external aSSeSSment 85

instead of robotically going through the weights and ratings (which by the way are critically im- portant), highlight various factors in light of where you are leading the firm. Make it abundantly clear in your discussion how your firm, with your suggestions, can subdue rival firms or at least profitably compete with them. Showcase during this section of your project the key underlying reasons how and why your firm can prosper among rivals. Remember to be prescriptive, rather than descriptive, in the manner that you present your entire project. If presenting your project orally, be self confident and passionate rather than timid and uninterested. Definitely “bring the data” throughout your project because “vagueness” is the most common downfall of students in case analyses.

Conclusion Increasing turbulence in markets and industries around the world means the external audit has become an explicit and vital part of the strategic-management process. This chapter pro- vides a framework for collecting and evaluating economic, social, cultural, demographic, environmental, political, governmental, legal, technological, and competitive information. Firms that do not mobilize and empower their managers and employees to identify, monitor, forecast, and evaluate key external forces may fail to anticipate emerging opportunities and threats and, consequently, may pursue ineffective strategies, miss opportunities, and invite organizational demise. Firms not taking advantage of e-commerce and social media networks are technologically falling behind.

A major responsibility of strategists is to ensure development of an effective external-audit system. This includes using information technology to devise a competitive intelligence system that works. The external-audit approach described in this chapter can be used effectively by any size or type of organization. Typically, the external-audit process is more informal in small firms, but the need to understand key trends and events is no less important for these firms. The EFE Matrix and Porter’s Five-Forces Model can help strategists evaluate the market and industry, but these tools must be accompanied by good intuitive judgment. Multinational firms especially need a systematic and effective external-audit system because external forces among foreign countries vary so greatly.

Key Terms and Concepts Chief Information Officer (CIO) (p. 71) Chief Technology Officer (CTO) (p. 71) Competitive Analysis (p. 75) Competitive Intelligence (CI) (p. 74) Competitive Profile Matrix (CPM) (p. 83) Director of Competitive Analysis (p. 75) Environmental Scanning (p. 62) External Audit (p. 62) External Factor Evaluation (EFE)

Matrix (p. 80)

External Forces (p. 63) Industrial Organization (I/O) (p. 65) Industry Analysis (p. 62) Information Technology (IT) (p. 71) Internet (p. 71) Lifecare Facilities (p. 68) Linear Regression (p. 80) Market Commonality (p. 75) Porter’s Five-Forces Model (p. 75) Resource Similarity (p. 75)

Issues for review and Discussion 1. Does McDonald’s Corp. benefit from a low or high value

of the dollar? Explain why. 2. Explain how Facebook, Twitter, and Myspace can

represent a major threat or opportunity for a company. 3. Rate the seven websites provided under the “Sources of

External Information” section of the chapter from best to

worst for finding current News Releases from a company. 4. If your Competitive Profile Matrix has three firms and

they all end up with the same Total Weighted Score, would the analysis still be useful? Why?

5. Describe the “process of performing an external audit” in an organization doing strategic planning for the first time.

86 Part 2 • Strategy formulation

6. The global recession forced thousands of firms into bank- ruptcy. Does this fact alone confirm that “external factors are more important than internal factors” in strategic plan- ning? Discuss.

7. Use a series of two-dimensional (two-variable) graphs to illustrate the historical relationship among the following variables: value of the dollar, oil prices, interest rates, and stock prices. Give one implication of each graph for strategic planning.

8. Do you feel the advantages of a low value of the dollar offset the disadvantages for (1) a firm that derives 60 percent of its revenues from foreign countries and (2) a firm that derives 10 percent of its revenues from foreign countries? Justify your opinion.

9. The migration of people has slowed from (1) region to region across the United States, from (2) city to suburb worldwide, and from (3) country to country across the globe. What are the strategic implications of these trends for companies?

10. Governments worldwide are turning to “nationalization of companies” to cope with economic problems. What are the strategic implications of this trend for firms that compete with these nationalized firms?

11. Governments worldwide are turning to “protectionism” to cope with economic problems, imposing tariffs and subsi- dies on foreign goods and restrictions/incentives on their own firms to keep jobs at home. What are the strategic implications of this trend for international commerce?

12. Compare and contrast the duties and responsibilities of a CIO with a CTO in a large firm.

13. What are the three basic objectives of a competitive intel- ligence program?

14. Distinguish between market commonality and resource similarity. Apply these concepts to two rival firms that you are familiar with.

15. Let’s say you work for McDonald’s and you applied Porter’s Five-Forces Model to study the fast-food industry. Would information in your analysis provide factors more readily to an EFE Matrix, a CPM, or to neither matrix? Justify your answer.

16. Explain why it is appropriate for ratings in an EFE Matrix to be 1, 2, 3, or 4 for any opportunity or threat.

17. Why is inclusion of about 20 factors recommended in the EFE Matrix rather than about 10 factors or about 40 factors?

18. In developing an EFE Matrix, would it be advantageous to arrange your opportunities according to the highest weight, and do likewise for your threats? Explain.

19. In developing an EFE Matrix, would it be best to have 10 opportunities and 10 threats, or would 17 opportunities (or threats) be fine with 3 of the other to achieve a total of 20 factors as desired?

20. Could/should critical success factors in a CPM include external factors? Explain.

21. Explain how to conduct an external strategic-management audit.

22. Identify a recent economic, social, political, or techno- logical trend that significantly affects the local Pizza Hut.

23. Discuss the following statement: Major opportunities and threats usually result from an interaction among key envi- ronmental trends rather than from a single external event or factor.

24. Identify two industries experiencing rapid technological changes and three industries that are experiencing little technological change. How does the need for technologi- cal forecasting differ in these industries? Why?

25. Use Porter’s Five-Forces Model to evaluate competitive- ness within the U.S. banking industry.

26. How does the external audit affect other components of the strategic-management process?

27. As the owner of a small business, explain how you would organize a strategic-information scanning system. How would you organize such a system in a large organization?

28. Construct an EFE Matrix for an organization of your choice.

29. Give some advantages and disadvantages of cooperative versus competitive strategies.

30. What is your forecast for interest rates and the stock mar- ket in the next several months? As the stock market moves up, do interest rates always move down? Why? What are the strategic implications of these trends?

31. Let’s say your boss develops an EFE Matrix that includes 62 factors. How would you suggest reducing the number of factors to 20?

32. Discuss the ethics of gathering competitive intelligence. 33. Discuss the ethics of cooperating with rival firms. 34. Do you agree with I/O theorists that external factors are more

important than internal factors to a firm’s achieving competi- tive advantage? Explain both your and their position.

35. Define, compare, and contrast the weights versus ratings in an EFE Matrix.

36. Develop a Competitive Profile Matrix for your university. Include six factors.

37. List the 10 external areas that give rise to opportunities and threats.

notes 1. York Freund, “Critical Success Factors,” Planning Review

16, no. 4 (July–August 1988): 20. 2. Ann Zimmerman, “Gift Shoppers Flocked to the Web,”

Wall Street Journal, December 24, 2010, B1.

3. Bill Saporito, “Companies That Compete Best,” Fortune, May 22, 1989, 36.

4. Kenneth Sawka, “Demystifying Business Intelligence,” Management Review, October 1996, 49.

ChaPter 3 • the external aSSeSSment 87

Current readings Allio, Robert J. “In this Recession’s Aftermath, CEO’s Face

Unique Threats and Opportunities.” Strategy & Leadership 38, no. 4 (2010): 27.

Denning, Stephen. “Masterclass: Managing the Threats and Opportunities of the Open Corporation.” Strategy & Leadership 38, no. 6 (2010): 16.

Holburn, Guy L. F., and Bennet A. Zeiner. “Political Capabilities, Policy Risk, and International Investment Strategy: Evidence from the Global Electric Power Generation Industry.” Strategic Management Journal 31, no. 12 (December 2010): 1290–1315.

Ghemawat, Pankaj. “Finding Your Strategy in the New Landscape.” Harvard Business Review, March 2010, 54–61.

Gulati, Ranjay, Nitin Nohria, and Franz Wohlgezogen. “Roaring Out of Recession.” Harvard Business Review, March 2010, 62–69.

Haas, Martine R. “The Double-Edged Swords of Autonomy and External Knowledge: Analyzing Team Effectiveness in a Multinational Organization.” Academy of Management Journal 53, no. 5 (October 2010): 989.

Kilduff, Gavin J., Hillary Anger Elfenbein, and Barry M. Staw. “The Psychology of Rivalry: A Relationally Dependent Analysis of Competition.” Academy of Management Journal 53, no. 5 (October 2010): 943–969.

Lam, Shun Yin. “What Kind of Assumptions Need to be Realistic and How to Test Them: A Response to Tsang (2006).” Strategic Management Journal 31, no. 6 (June 2010): 679–687.

Makridakis, Spyros, Robin M. Hogarth, and Anil Gaba. “Why Forecasts Fail. What to Do Instead.” MIT Sloan Management Review 51, no. 2 (Winter 2010): 83–95.

Ofek, Elie, and Luc Wathieu. “Are You Ignoring Trends That Could Shake Up Your Business?” Harvard Business Review, July–August 2010, 124–131.

Yang, Hongyan, Corey Phelps, and H. Kevin Steensma. “Learning From What Others Have Learned From You: The Effects of Knowledge Spillovers on Originating Firms.” The Academy of Management Journal 53, no. 2 (April 2010): 371–389.

5. John Prescott and Daniel Smith, “The Largest Survey of ‘Leading-Edge’ Competitor Intelligence Managers,” Planning Review 17, no. 3 (May–June 1989): 6–13.

6. M. J. Chen, “Competitor Analysis and Interfirm Rivalry: Toward a Theoretical Integration,” Academy of Management Review 21 (1996): 106.

7. S. Jayachandran, J. Gimeno, and P. R. Varadarajan, “Theory of Multimarket Competition: A Synthesis and Implications for Marketing Strategy,” Journal of Marketing 63, 3 (1999): 59; and M. J. Chen. “Competitor Analysis and Interfirm Rivalry: Toward a Theoretical

Integration,” Academy of Management Review 21 (1996): 107–108.

8. Arthur Thompson, Jr., A. J. Strickland III, and John Gamble, Crafting and Executing Strategy: Text and Readings (New York: McGraw-Hill/Irwin, 2005), 63.

9. Michael E. Porter, Competitive Strategy: Techniques for Analyzing Industries and Competitors (New York: Free Press, 1980), 24–27.

10. horizon.unc.edu/projects/seminars/futuresresearch/rationale .asp.

11. Dale McConkey, “Planning in a Changing Environment,” Business Horizons 31, no. 5 (September–October 1988): 67.

AssurAnce of LeArning exercises

Assurance of Learning Exercise 3A

Competitive Intelligence (CI) Certification Purpose This exercise will enhance your knowledge of CI, which is the action of defining, gathering, analyzing, and distributing information about products, customers, and competitors as needed to support executives and managers in making strategic decisions for an organization. With the right information, organizations can avoid unpleasant surprises by anticipating competitors’ moves and decreasing response time. CI information is available in newspapers and magazines, such as the Wall Street Journal, Business Week, and Fortune. The Internet has made gathering CI information easier. However, since the Internet is mostly public domain material, information gathered is less likely to be good CI. In fact, there is a risk that information gathered from the Internet may be misinformation

88 Part 2 • Strategy formulation

and mislead users, so CI researchers are often wary of such information. Many therefore spend their time and budget gathering intelligence using primary research, which includes networking with industry experts, attending trade shows and conferences, gathering information from their own customers and suppliers, and so on. The Internet is primarily used to gather information on what the company says about itself and its online presence (in the form of links to other compa- nies, its strategy regarding search engines and online advertising, mentions in discussion forums and on blogs, etc.). Also important in CI are online subscription databases and news aggregation sources, which have simplified the secondary source collection process. Social media sources also have become important—providing potential interviewee names, as well as opinions and attitudes, and sometimes breaking news.

Instructions

Step 1 Do a Google search for the following five CI topics and write a short overview of each item.

1. Strategic & Competitive Intelligence Professionals 2. The Journal of Competitive Intelligence and Management 3. The Institute for Competitive Intelligence 4. The Fuld-Gilad-Herring Academy of Competitive Intelligence 5. Competitive Intelligence Ethics: Navigating the Gray Zone

Assurance of Learning Exercise 3B

Develop Divisional Walt Disney EFE Matrices Purpose Walt Disney has five major divisions: 1) Media Networks, 2) Parks & Resorts, 3) Studio Entertainment, 4) Consumer Products, and 5) Interactive Media. The company faces fierce but different competitors in each segment as described in the Cohesion Case. The external opportunities and threats that Disney faces are different in each segment, so each division prepares its own list of critical external success factors. This external analysis is critically important in strategic planning because a firm needs to exploit opportunities and avoid or at least mitigate threats.

Instructions

Step 1 Go to http://corporate.disney.go.com/ and review Disney’s five major divisions. Step 2 Conduct research to determine what you believe are the four major threats and the four

major opportunities critical to strategic planning within Disney’s five business segments. Review the relevant S&P Industry Survey documents for each segment.

Step 3 Based on the information from Step 2, develop divisional EFEMs for Disney. Work within a team of students if your instructor so requests, but you will need an EFEM for each segment.

Step 4 Prioritize the 20 threats and the 20 opportunities developed in the prior step so that corporate Disney top executives can better develop a corporate EFEM.

Assurance of Learning Exercise 3C

Develop an EFE Matrix for Walt Disney Purpose This exercise will give you practice developing an EFE Matrix. An EFE Matrix summarizes the results of an external audit. This is an important tool widely used by strategists.

Instructions

Step 1 Join with two other students in class, and jointly prepare an EFE Matrix for Disney. Refer back to the Cohesion Case (p. 24) and to Exercise 1B (p. 39), if necessary, to identify

ChaPter 3 • the external aSSeSSment 89

external opportunities and threats. Use the information in the S&P Industry Surveys that you copied as part of Assurance of Learning Exercise 1B. Be sure not to include strate- gies as opportunities, but do include as many monetary amounts, percentages, numbers, and ratios as possible.

Step 2 All three-person teams participating in this exercise should record their EFE total weighted scores on the board. Put your initials after your score to identify it as your team’s.

Step 3 Compare the total weighted scores. Which team’s score came closest to the instructor’s answer? Discuss reasons for variation in the scores reported on the board.

Assurance of Learning Exercise 3D

Perform an External Assessment Purpose This exercise will give you practice doing an external assessment. A key part of preparing an external audit is searching the Internet and examining published sources of information for relevant economic, social, cultural, demographic, environmental, political, governmental, legal, technological, and com- petitive trends and events. External opportunities and threats must be identified and evaluated before strategies can be formulated effectively.

Instructions

Step 1 Select a company or business where you currently or previously have worked. Conduct an external audit for this company. Find opportunities and threats in recent issues of news- papers and magazines. Search for information using the Internet. Use the following seven websites:

http://marketwatch.multexinvestor.com www.hoovers.com http://moneycentral.msn.com http://finance.yahoo.com www.clearstation.com http://us.etrade.com/e/t/invest/markets. http://globaledge.msu.edu/industries/

Step 2 On a separate sheet of paper, list 10 opportunities and 10 threats that face this company. Be specific in stating each factor.

Step 3 Include a bibliography to reveal where you found the information. Step 4 Write a three-page summary of your findings, and submit it to your instructor.

Assurance of Learning Exercise 3E

Develop an EFE Matrix for My University Purpose Most colleges and universities do strategic planning. Institutions are consciously and systematically identifying and evaluating external opportunities and threats facing higher education in your state, the nation, and the world.

Instructions

Step 1 Join with two other individuals in class and jointly prepare an EFE Matrix for your institution. Step 2 Go to the board and record your total weighted score in a column that includes the scores of all

three-person teams participating. Put your initials after your score to identify it as your team’s. Step 3 Which team viewed your college’s strategies most positively? Which team viewed your

college’s strategies most negatively? Discuss the nature of the differences.

90 Part 2 • Strategy formulation

Assurance of Learning Exercise 3F

Develop Divisional Walt Disney CPMs Purpose Walt Disney has five major divisions as follows: 1) Media Networks, 2) Parks & Resorts, 3) Studio Entertainment, 4) Consumer Products, and 5) Interactive Media. The company faces fierce but dif- ferent competitors in each segment. This exercise gives you practice evaluating a firm’s diverse competitors across different divisions.

Instructions

Step 1 Go to http://corporate.disney.go.com/ and review Disney’s five major divisions. Step 2 Conduct research to determine Disney’s three major competitors in each of the five major

divisions. Step 3 Join with three other students in class to form a group of four. Step 4 Each team member should select a division of Disney and develop a Competitive Profile

Matrix for their selected segment. Include the two most relevant rival firms in each CPM.

Assurance of Learning Exercise 3G

Develop a Competitive Profile Matrix for Walt Disney Purpose Monitoring competitors’ performance and strategies is a key aspect of an external audit. This exercise is designed to give you practice evaluating the competitive position of organizations in a given indus- try and assimilating that information in the form of a Competitive Profile Matrix.

Instructions

Step 1 Gather your information from Assurance of Learning Exercise 1B. Also, turn back to the Cohesion Case and review the section on competitors (pages 31–37).

Step 2 On a separate sheet of paper, prepare a Competitive Profile Matrix that includes Disney and CBS.

Step 3 Turn in your Competitive Profile Matrix for a classwork grade.

Assurance of Learning Exercise 3H

Develop a Competitive Profile Matrix for My University Purpose Your college or university competes with all other educational institutions in the world, especially those in your own state. State funds, students, faculty, staff, endowments, gifts, and federal funds are areas of competitiveness. Other areas include athletic programs, dorm life, academic reputation, loca- tion, and career services. The purpose of this exercise is to give you practice thinking competitively about the business of education in your state.

Instructions

Step 1 Identify two colleges or universities in your state that compete directly with your institu- tion for students. Interview several persons, perhaps classmates, who are aware of particular

ChaPter 3 • the external aSSeSSment 91

strengths and weaknesses of those universities. Record information about the two competing universities.

Step 2 Prepare a Competitive Profile Matrix that includes your institution and the two competing insti- tutions. Include at least the following 10 factors in your analysis:

1. Tuition costs 2. Quality of faculty 3. Academic reputation 4. Average class size 5. Campus landscaping 6. Athletic programs 7. Quality of students 8. Graduate programs 9. Location of campus 10. Campus culture

Step 3 Submit your Competitive Profile Matrix to your instructor for evaluation.

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“Notable Quotes” “Like a product or service, the planning pro- cess itself must be managed and shaped, if it is to serve executives as a vehicle for strategic decision-making.” —Robert Lenz

“The difference between now and five years ago is that information systems had limited function. You weren’t betting your company on it. Now you are.” —William Gruber

“Weak leadership can wreck the soundest strategy.” —Sun Tzu

“A firm that continues to employ a previously successful strategy eventually and inevitably falls victim to a competitor.” —William Cohen

“Great spirits have always encountered violent opposition from mediocre minds.” —Albert Einstein

“The idea is to concentrate our strength against our competitor’s relative weakness.” —Bruce Henderson

Chapter ObjeCtives After studying this chapter, you should be able to do the following:

1. Describe how to perform an internal strategic-management audit.

2. Discuss the Resource-Based View (RBV) in strategic management.

3. Discuss key interrelationships among the functional areas of business.

4. Identify the basic functions or activities that make up management, marketing, finance/accounting, production/operations, research and development, and management information systems.

5. Explain how to determine and prioritize a firm’s internal strengths and weaknesses.

6. Explain the importance of financial ratio analysis.

7. Discuss the nature and role of management information systems in strategic management.

8. Develop an Internal Factor Evaluation (IFE) Matrix.

9. Explain cost/benefit analysis value chain analysis, and benchmarking as strategic-management tools.

assurance of Learning exercise 4a Apply Breakeven Analysis

assurance of Learning exercise 4b Develop Divisional Disney IFEMs

assurance of Learning exercise 4C Perform a Financial Ratio Analysis For Walt Disney

assurance of Learning exercise 4D Construct an IFE Matrix for Walt Disney

assurance of Learning exercise 4e Construct an IFE Matrix for My University

assuranCe Of Learning exerCises

The Internal Assessment

4

94 Part 2 • StrategY formulation

This chapter focuses on identifying and evaluating a firm’s strengths and weaknesses in the functional areas of business, including management, marketing, finance/accounting, production/ operations, research and development, and management information systems. Relationships among these areas of business are examined. Strategic implications of important functional area concepts are examined. The process of performing an internal audit is described. The Resource- Based View (RBV) of strategic management is introduced as is the Value Chain Analysis (VCA) concept. Pearson PLC, publisher of this textbook, does an excellent job using its strengths to capitalize upon external opportunities. Pearson is showcased in the opening chapter boxed insert.

The Nature of an Internal Audit All organizations have strengths and weaknesses in the functional areas of business. No enter- prise is equally strong or weak in all areas. Maytag, for example, is known for excellent produc- tion and product design, whereas Procter & Gamble is known for superb marketing. Internal strengths/weaknesses, coupled with external opportunities/threats and a clear statement of mission, provide the basis for establishing objectives and strategies. Objectives and strategies are established with the intention of capitalizing upon internal strengths and overcoming weak- nesses. The internal-audit part of the strategic-management process is illustrated in Figure 4-1.

Excellent Strategic Management Showcased

Pearson PLC

Founded in 1844 and headquartered in London, Pearson PLC has 37,000 employees based in more than 60 countries. Pearson is listed on the London and New York stock exchanges (UK: PSON; NYSE: PSO). The company had 2010 sales of over $9.2 billion and a gross profit of $4.98 billion. Pearson’s 2010 profit margin was an incred- ible 22.9 percent and its return on equity was 10.23 percent. With excellent strategic management guidance, Pearson is outperform- ing all rival firms, which include McGraw-Hill, Thomson Reuters Corporation, Houghton Mifflin Harcourt Publishing, and Gannett Company.

Pearson operates in three strategic business units: 1) Pearson Education, 2) Financial Times, and 3) Penguin. Included in Pearson Education is the Prentice Hall Secondary Education Division (Grades 6–12), a leading publisher of middle school and high school text- books and technology in the United States, as well as college text- books. Pearson Education brands include Addison-Wesley, Allyn & Bacon, Benjamin Cummings, Longman, Merrill, and Prentice Hall. This Prentice Hall textbook is available all over the world in several different languages.

Within the Financial Times strategic business unit, Pearson pub- lishes the Financial Times newspaper and offers other products such as FT.com, Mergermarket, dealReporter, Wealthmonitor, Pharmawire, Investors Chronicle, Financial Adviser, and The Banker. Pearson’s Penguin strategic business unit publishes both fiction and nonfiction books under the names Penguin, Hamish Hamilton, Putnam, Berkley, and Dorling Kindersley.

Over the past five years, Pearson has increased its profit margins and reduced average work- ing capital as a percentage of sales in Pearson Education and Penguin from 30.7 percent to 26.3 percent, freeing up cash for further investment.

Pearson’s Chief Executive Marjorie Scardino is “uncomfortable” with the Libyan sovereign wealth fund owning 3 percent of Pearson. Pearson is seeking clarity as to whether the U.K. freeze on Libyan as- sets covers the stake. This situation reflects an emerging issue for a variety of European companies grappling with the fact that they have the Libyan Investment Authority as a shareholder. “We’re in a terrible position,” Ms. Scardino said, noting that “Pearson, as a public com- pany, has no control over who invests in its stock.” Moammar Gaddafi is presently struggling to remain Libya’s dictator.

Source: Based on: Simon Zekaria, “Pearson Raises Its Forecast for 2010,” Wall Street Journal, January 20, 2011, B5. Also, company documents.

ChaPter 4 • the internal aSSeSSment 95

Figure 4-1

A Comprehensive Strategic-Management Model

Strategy Formulation

Strategy Implementation

Strategy Evaluation

Chapter 10: Business Ethics/Social Responsibility/Environmental Sustainability Issues

Chapter 11: Global/International Issues

Measure and Evaluate Performance

Chapter 9

Implement Strategies— Marketing,

Finance, Accounting, R&D,

and MIS Issues Chapter 8

Implement Strategies—

Management Issues

Chapter 7

Perform External Audit

Chapter 3

Develop Vision and Mission Statements Chapter 2

Establish Long-Term Objectives Chapter 5

Generate, Evaluate, and Select Strategies Chapter 6

Perform Internal Audit

Chapter 4

Source: Fred R. David, “How Companies Define Their Mission,” Long Range Planning 22, no. 3 (June 1988): 40.

Key Internal Forces It is not possible in a strategic-management text to review in depth all the material presented in courses such as marketing, finance, accounting, management, management information systems, and production/operations; there are many subareas within these functions, such as customer service, warranties, advertising, packaging, and pricing under marketing.

For different types of organizations, such as hospitals, universities, and government agen- cies, the functional business areas, of course, differ. In a hospital, for example, functional areas may include cardiology, hematology, nursing, maintenance, physician support, and receivables. Functional areas of a university can include athletic programs, placement services, housing, fund-raising, academic research, counseling, and intramural programs. Within large organiza- tions, each division has certain strengths and weaknesses.

A firm’s strengths that cannot be easily matched or imitated by competitors are called distinctive competencies. Building competitive advantages involves taking advantage of distinctive competencies. For example, the firm Research in Motion (RIM) exploits its distinctive compe- tence in research and development by producing a wide range of innovative products. Strategies are designed in part to improve on a firm’s weaknesses, turning them into strengths—and maybe even into distinctive competencies.

96 Part 2 • StrategY formulation

Figure 4-2 illustrates that all firms should continually strive to improve on their weaknesses, turning them into strengths, and ultimately developing distinctive competencies that can provide the firm with competitive advantages over rival firms.

The Process of Performing an Internal Audit The process of performing an internal audit closely parallels the process of performing an external audit. Representative managers and employees from throughout the firm need to be involved in determining a firm’s strengths and weaknesses. The internal audit requires gather- ing and assimilating information about the firm’s management, marketing, finance/accounting, production/operations, research and development (R&D), and management information systems operations. Key factors should be prioritized as described in Chapter 3 so that the firm’s most important strengths and weaknesses can be determined collectively.

Compared to the external audit, the process of performing an internal audit provides more opportunity for participants to understand how their jobs, departments, and divisions fit into the whole organization. This is a great benefit because managers and employees perform better when they understand how their work affects other areas and activities of the firm. For example, when marketing and manufacturing managers jointly discuss issues related to internal strengths and weaknesses, they gain a better appreciation of the issues, problems, concerns, and needs of all the functional areas. In organizations that do not use strategic management, marketing, finance, and manufacturing managers often do not interact with each other in significant ways. Performing an internal audit thus is an excellent vehicle or forum for improving the process of communication in the organization. Communication may be the most important word in management.

Performing an internal audit requires gathering, assimilating, and evaluating information about the firm’s operations. Critical success factors, consisting of both strengths and weak- nesses, can be identified and prioritized in the manner discussed in Chapter 3. According to William King, a task force of managers from different units of the organization, supported by staff, should be charged with determining the 10 to 20 most important strengths and weaknesses that should influence the future of the organization. He says:

The development of conclusions on the 10 to 20 most important organizational strengths and weaknesses can be, as any experienced manager knows, a difficult task, when it involves managers representing various organizational interests and points of view. Developing a 20-page list of strengths and weaknesses could be accomplished relatively easily, but a list of the 10 to 15 most important ones involves significant analysis and negotiation. This is true because of the judgments that are required and the impact which such a list will inevitably have as it is used in the formulation, implemen- tation, and evaluation of strategies.1

Strategic management is a highly interactive process that requires effective coordination among management, marketing, finance/accounting, production/operations, R&D, and manage- ment information systems managers. Although the strategic-management process is overseen by strategists, success requires that managers and employees from all functional areas work together to provide ideas and information. Financial managers, for example, may need to restrict the number of feasible options available to operations managers, or R&D managers may develop products for which marketing managers need to set higher objectives. A key to organizational success is effective coordination and understanding among managers from all functional busi- ness areas. Through involvement in performing an internal strategic-management audit, manag- ers from different departments and divisions of the firm come to understand the nature and effect of decisions in other functional business areas in their firm. Knowledge of these relationships is critical for effectively establishing objectives and strategies.

Figure 4-2

The Process of gaining Competitive Advantage in a Firm

Weaknesses ⇒ Strengths ⇒ Distinctive Competencies ⇒ Competitive Advantage

ChaPter 4 • the internal aSSeSSment 97

A failure to recognize and understand relationships among the functional areas of business can be detrimental to strategic management, and the number of those relationships that must be managed increases dramatically with a firm’s size, diversity, geographic dispersion, and the number of products or services offered. Governmental and nonprofit enterprises traditionally have not placed sufficient emphasis on relationships among the business functions. Some firms place too great an emphasis on one function at the expense of others. Ansoff explained:

During the first fifty years, successful firms focused their energies on optimizing the performance of one of the principal functions: production/operations, R&D, or market- ing. Today, due to the growing complexity and dynamism of the environment, success increasingly depends on a judicious combination of several functional influences. This transition from a single function focus to a multifunction focus is essential for success- ful strategic management.2

Financial ratio analysis exemplifies the complexity of relationships among the functional areas of business. A declining return on investment or profit margin ratio could be the result of ineffective marketing, poor management policies, research and development errors, or a weak management information system. The effectiveness of strategy formulation, implementation, and evaluation activities hinges upon a clear understanding of how major business functions af- fect one another. For strategies to succeed, a coordinated effort among all the functional areas of business is needed. In the case of planning, George wrote:

We may conceptually separate planning for the purpose of theoretical discussion and analysis, but in practice, neither is it a distinct entity nor is it capable of being sepa- rated. The planning function is mixed with all other business functions and, like ink once mixed with water, it cannot be set apart. It is spread throughout and is a part of the whole of managing an organization.3

The Resource-Based View (RBV) Some researchers emphasize the importance of the internal audit part of the strategic- management process by comparing it to the external audit. Robert Grant concluded that the internal audit is more important, saying:

In a world where customer preferences are volatile, the identity of customers is chang- ing, and the technologies for serving customer requirements are continually evolving, an externally focused orientation does not provide a secure foundation for formulating long-term strategy. When the external environment is in a state of flux, the firm’s own resources and capabilities may be a much more stable basis on which to define its iden- tity. Hence, a definition of a business in terms of what it is capable of doing may offer a more durable basis for strategy.4

The Resource-Based View (RBV) approach to competitive advantage contends that internal resources are more important for a firm than external factors in achieving and sustaining com- petitive advantage. In contrast to the I/O theory presented in the previous chapter, proponents of the RBV view contend that organizational performance will primarily be determined by internal resources that can be grouped into three all-encompassing categories: physical resources, human resources, and organizational resources.5 Physical resources include all plant and equipment, location, technology, raw materials, machines; human resources include all employees, training, experience, intelligence, knowledge, skills, abilities; and organizational resources include firm structure, planning processes, information systems, patents, trademarks, copyrights, databases, and so on. RBV theory asserts that resources are actually what helps a firm exploit opportunities and neutralize threats.

The basic premise of the RBV is that the mix, type, amount, and nature of a firm’s inter- nal resources should be considered first and foremost in devising strategies that can lead to

98 Part 2 • StrategY formulation

sustainable competitive advantage. Managing strategically according to the RBV involves de- veloping and exploiting a firm’s unique resources and capabilities, and continually maintaining and strengthening those resources. The theory asserts that it is advantageous for a firm to pursue a strategy that is not currently being implemented by any competing firm. When other firms are unable to duplicate a particular strategy, then the focal firm has a sustainable competitive advan- tage, according to RBV theorists.

For a resource to be valuable, it must be either (1) rare, (2) hard to imitate, or (3) not easily substitutable. Often called empirical indicators, these three characteristics of resources enable a firm to implement strategies that improve its efficiency and effectiveness and lead to a sustain- able competitive advantage. The more a resource(s) is rare, nonimitable, and nonsubstitutable, the stronger a firm’s competitive advantage will be and the longer it will last.

Rare resources are resources that other competing firms do not possess. If many firms have the same resource, then those firms will likely implement similar strategies, thus giving no one firm a sustainable competitive advantage. This is not to say that resources that are common are not valuable; they do indeed aid the firm in its chance for economic prosperity. However, to sus- tain a competitive advantage, it is more advantageous if the resource(s) is also rare.

It is also important that these same resources be difficult to imitate. If firms cannot easily gain the resources, say RBV theorists, then those resources will lead to a competitive advantage more so than resources easily imitable. Even if a firm employs resources that are rare, a sus- tainable competitive advantage may be achieved only if other firms cannot easily obtain these resources.

The third empirical indicator that can make resources a source of competitive advantage is substitutability. Borrowing from Porter’s Five-Forces Model, to the degree that there are no vi- able substitutes, a firm will be able to sustain its competitive advantage. However, even if a com- peting firm cannot perfectly imitate a firm’s resource, it can still obtain a sustainable competitive advantage of its own by obtaining resource substitutes.

The RBV has continued to grow in popularity and continues to seek a better understanding of the relationship between resources and sustained competitive advantage in strategic manage- ment. However, as alluded to in Chapter 3, one cannot say with any degree of certainty that either external or internal factors will always or even consistently be more important in seeking competitive advantage. Understanding both external and internal factors, and more importantly, understanding the relationships among them, will be the key to effective strategy formulation (discussed in Chapter 6). Because both external and internal factors continually change, strate- gists seek to identify and take advantage of positive changes and buffer against negative changes in a continuing effort to gain and sustain a firm’s competitive advantage. This is the essence and challenge of strategic management, and oftentimes survival of the firm hinges on this work.

Integrating Strategy and Culture Relationships among a firm’s functional business activities perhaps can be exemplified best by focusing on organizational culture, an internal phenomenon that permeates all departments and divisions of an organization. Organizational culture can be defined as “a pattern of behavior that has been developed by an organization as it learns to cope with its problem of external adapta- tion and internal integration, and that has worked well enough to be considered valid and to be taught to new members as the correct way to perceive, think, and feel.”6 This definition empha- sizes the importance of matching external with internal factors in making strategic decisions.

Organizational culture captures the subtle, elusive, and largely unconscious forces that shape a workplace. Remarkably resistant to change, culture can represent a major strength or weakness for the firm. It can be an underlying reason for strengths or weaknesses in any of the major business functions.

Defined in Table 4-1, cultural products include values, beliefs, rites, rituals, ceremonies, myths, stories, legends, sagas, language, metaphors, symbols, heroes, and heroines. These prod- ucts or dimensions are levers that strategists can use to influence and direct strategy formulation, implementation, and evaluation activities. An organization’s culture compares to an individual’s personality in the sense that no two organizations have the same culture and no two individuals have the same personality. Both culture and personality are enduring and can be warm, aggres- sive, friendly, open, innovative, conservative, liberal, harsh, or likable.

ChaPter 4 • the internal aSSeSSment 99

At Google, the culture is very informal. Employees are encouraged to wander the halls on employee-sponsored scooters and brainstorm on public whiteboards provided everywhere. In contrast, the culture at Procter & Gamble (P&G) is so rigid that employees jokingly call themselves “Proctoids.” Despite this difference, the two companies are swapping employees and participating in each other’s staff training sessions. Why? Because P&G spends more money on advertising than any other company and Google desires more of P&G’s $8.7 bil- lion in annual advertising expenses; P&G has come to realize that the next generation of laundry-detergent, toilet-paper, and skin-cream customers now spend more time online than watching TV.

Dimensions of organizational culture permeate all the functional areas of business. It is something of an art to uncover the basic values and beliefs that are deeply buried in an organiza- tion’s rich collection of stories, language, heroes, and rituals, but cultural products can represent both important strengths and weaknesses. Culture is an aspect of an organization that can no lon- ger be taken for granted in performing an internal strategic-management audit because culture and strategy must work together.

Table 4-2 provides some example (possible) aspects of an organization’s culture. Note you could ask employees/managers to rate the degree that the dimension characterizes the firm. When one firm acquires another firm, integrating the two cultures can be important. For ex- ample, in Table 4-2, one firm may score mostly 1’s (low) and the other firm may score mostly 5’s (high), which would present a challenging strategic problem.

The strategic-management process takes place largely within a particular organization’s culture. Lorsch found that executives in successful companies are emotionally committed to the firm’s culture, but he concluded that culture can inhibit strategic management in two basic ways. First, managers frequently miss the significance of changing external conditions because they are blinded by strongly held beliefs. Second, when a particular culture has been effective in the past, the natural response is to stick with it in the future, even during times of major strategic change.7 An organization’s culture must support the collective commitment of its people to a common purpose. It must foster competence and enthusiasm among managers and employees.

Organizational culture significantly affects business decisions and thus must be evaluated during an internal strategic-management audit. If strategies can capitalize on cultural strengths, such as a strong work ethic or highly ethical beliefs, then management often can swiftly and eas- ily implement changes. However, if the firm’s culture is not supportive, strategic changes may be ineffective or even counterproductive. A firm’s culture can become antagonistic to new strate- gies, with the result being confusion and disorientation.

TAble 4-1 Example Cultural Products Defined

Rites Planned sets of activities that consolidate various forms of cultural expressions into one event.

Ceremonial Several rites connected together.

Ritual A standardized set of behaviors used to manage anxieties.

Myth A narrative of imagined events, usually not supported by facts.

Saga A historical narrative describing the unique accomplishments of a group and its leaders.

Legend A handed-down narrative of some wonderful event, usually not supported by facts.

Story A narrative usually based on true events.

Folktale A fictional story.

Symbol Any object, act, event, quality, or relation used to convey meaning.

Language The manner in which members of a group communicate.

Metaphors Shorthand of words used to capture a vision or to reinforce old or new values.

Values Life-directing attitudes that serve as behavioral guidelines.

Belief An understanding of a particular phenomenon.

Heroes/Heroines Individuals greatly respected.

Source: Based on H. M. Trice and J. M. Beyer, “Studying Organizational Cultures through Rites and Ceremonials,” Academy of Management Review 9, no. 4 (October 1984): 655.

100 Part 2 • StrategY formulation

TAble 4-2 Fifteen Example (Possible) Aspects of an Organization’s Culture

Dimension low Degree High

1. Strong work ethic; arrive early and leave late 1 2 3 4 5

2. High ethical beliefs; clear code of business ethics followed 1 2 3 4 5

3. Formal dress; shirt and tie expected 1 2 3 4 5

4. Informal dress; many casual dress days 1 2 3 4 5

5. Socialize together outside of work 1 2 3 4 5

6. Do not question supervisor’s decision 1 2 3 4 5

7. Encourage whistle-blowing 1 2 3 4 5

8. Be health conscious; have a wellness program 1 2 3 4 5

9. Allow substantial “working from home” 1 2 3 4 5

10. Encourage creativity/innovation/openmindness 1 2 3 4 5

11. Support women and minorities; no glass ceiling 1 2 3 4 5

12. Be highly socially responsible; be philanthropic 1 2 3 4 5

13. Have numerous meetings 1 2 3 4 5

14. Have a participative management style 1 2 3 4 5

15. Preserve the natural environment; have a sustainability program 1 2 3 4 5

An organization’s culture should infuse individuals with enthusiasm for implementing strat- egies. Allarie and Firsirotu emphasized the need to understand culture:

Culture provides an explanation for the insuperable difficulties a firm encounters when it attempts to shift its strategic direction. Not only has the “right” culture become the essence and foundation of corporate excellence, it is also claimed that success or failure of reforms hinges on management’s sagacity and ability to change the firm’s driving culture in time and in time with required changes in strategies.8

The potential value of organizational culture has not been realized fully in the study of strategic management. Ignoring the effect that culture can have on relationships among the functional areas of business can result in barriers to communication, lack of coordination, and an inability to adapt to changing conditions. Some tension between culture and a firm’s strategy is inevitable, but the tension should be monitored so that it does not reach a point at which relation- ships are severed and the culture becomes antagonistic. The resulting disarray among members of the organization would disrupt strategy formulation, implementation, and evaluation. In con- trast, a supportive organizational culture can make managing much easier.

Internal strengths and weaknesses associated with a firm’s culture sometimes are over- looked because of the interfunctional nature of this phenomenon. It is important, therefore, for strategists to understand their firm as a sociocultural system. Success is often determined by linkages between a firm’s culture and strategies. The challenge of strategic management today is to bring about the changes in organizational culture and individual mind-sets that are needed to support the formulation, implementation, and evaluation of strategies.

Management The functions of management consist of five basic activities: planning, organizing, motivating, staffing, and controlling. An overview of these activities is provided in Table 4-3. These ac- tivities are important to assess in strategic planning because an organization should continually capitalize on its management strengths and improve on its management weak areas.

Planning The only thing certain about the future of any organization is change, and planning is the essen- tial bridge between the present and the future that increases the likelihood of achieving desired results. Planning is the process by which one determines whether to attempt a task, works out the most effective way of reaching desired objectives, and prepares to overcome unexpected

ChaPter 4 • the internal aSSeSSment 101

TAble 4-3 The Basic Functions of Management

Function Description Stage of Strategic-management Process When Most Important

Planning Planning consists of all those managerial activities related to preparing for the future. Specific tasks include forecasting, establishing objectives, devising strategies, developing policies, and setting goals.

Strategy Formulation

Organizing Organizing includes all those managerial activities that result in a structure of task and authority relationships. Specific areas include organizational design, job specialization, job descriptions, job specifications, span of control, unity of command, coordination, job design, and job analysis.

Strategy Implementation

Motivating Motivating involves efforts directed toward shaping human behavior. Specific topics include leadership, communication, work groups, behavior modification, delegation of authority, job enrichment, job satisfaction, needs fulfillment, organizational change, employee morale, and manage- rial morale.

Strategy Implementation

Staffing Staffing activities are centered on personnel or human resource manage- ment. Included are wage and salary administration, employee benefits, interviewing, hiring, firing, training, management development, employee safety, affirmative action, equal employment opportunity, union relations, career development, personnel research, discipline policies, grievance pro- cedures, and public relations.

Strategy Implementation

Controlling Controlling refers to all those managerial activities directed toward ensur- ing that actual results are consistent with planned results. Key areas of concern include quality control, financial control, sales control, inventory control, expense control, analysis of variances, rewards, and sanctions.

Strategy Evaluation

difficulties with adequate resources. Planning is the start of the process by which an individual or business may turn empty dreams into achievements. Planning enables one to avoid the trap of working extremely hard but achieving little.

Planning is an up-front investment in success. Planning helps a firm achieve maximum effect from a given effort. Planning enables a firm to take into account relevant factors and focus on the critical ones. Planning helps ensure that the firm can be prepared for all reasonable eventualities and for all changes that will be needed. Planning enables a firm to gather the resources needed and carry out tasks in the most efficient way possible. Planning enables a firm to conserve its own re- sources, avoid wasting ecological resources, make a fair profit, and be seen as an effective, useful firm. Planning enables a firm to identify precisely what is to be achieved and to detail precisely the who, what, when, where, why, and how needed to achieve desired objectives. Planning enables a firm to assess whether the effort, costs, and implications associated with achieving desired objec- tives are warranted.9 Planning is the cornerstone of effective strategy formulation. But even though it is considered the foundation of management, it is commonly the task that managers neglect most. Planning is essential for successful strategy implementation and strategy evaluation, largely because organizing, motivating, staffing, and controlling activities depend upon good planning.

The process of planning must involve managers and employees throughout an organiza- tion. The time horizon for planning decreases from two to five years for top-level to less than six months for lower-level managers. The important point is that all managers do planning and should involve subordinates in the process to facilitate employee understanding and commitment.

Planning can have a positive impact on organizational and individual performance. Planning allows an organization to identify and take advantage of external opportunities as well as mini- mize the impact of external threats. Planning is more than extrapolating from the past and present into the future (long range planning). It also includes developing a mission, forecasting future events and trends, establishing objectives, and choosing strategies to pursue (strategic planning).

An organization can develop synergy through planning. Synergy exists when everyone pulls together as a team that knows what it wants to achieve; synergy is the 2 + 2 = 5 effect. By establishing and communicating clear objectives, employees and managers can work together toward desired results. Synergy can result in powerful competitive advantages. The strategic- management process itself is aimed at creating synergy in an organization.

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Planning allows a firm to adapt to changing markets and thus to shape its own destiny. Strategic management can be viewed as a formal planning process that allows an organization to pursue proactive rather than reactive strategies. Successful organizations strive to control their own futures rather than merely react to external forces and events as they occur. Historically, organisms and organizations that have not adapted to changing conditions have become extinct. Swift adaptation is needed today more than ever because changes in markets, economies, and competitors worldwide are accelerating. Many firms did not adapt to the global recession of late and went out of business.

Organizing The purpose of organizing is to achieve coordinated effort by defining task and authority rela- tionships. Organizing means determining who does what and who reports to whom. There are countless examples in history of well-organized enterprises successfully competing against— and in some cases defeating—much stronger but less-organized firms. A well-organized firm generally has motivated managers and employees who are committed to seeing the organization succeed. Resources are allocated more effectively and used more efficiently in a well-organized firm than in a disorganized firm.

The organizing function of management can be viewed as consisting of three sequential activities: breaking down tasks into jobs (work specialization), combining jobs to form depart- ments (departmentalization), and delegating authority. Breaking down tasks into jobs requires the development of job descriptions and job specifications. These tools clarify for both managers and employees what particular jobs entail. In The Wealth of Nations, published in 1776, Adam Smith cited the advantages of work specialization in the manufacture of pins:

One man draws the wire, another straightens it, a third cuts it, a fourth points it, a fifth grinds it at the top for receiving the head. Ten men working in this manner can produce 48,000 pins in a single day, but if they had all wrought separately and independently, each might at best produce twenty pins in a day.10

Combining jobs to form departments results in an organizational structure, span of control, and a chain of command. Changes in strategy often require changes in structure because posi- tions may be created, deleted, or merged. Organizational structure dictates how resources are allocated and how objectives are established in a firm. Allocating resources and establishing objectives geographically, for example, is much different from doing so by product or customer.

The most common forms of departmentalization are functional, divisional, strategic busi- ness unit, and matrix. These types of structure are discussed further in Chapter 7.

Delegating authority is an important organizing activity, as evidenced in the old saying “You can tell how good a manager is by observing how his or her department functions when he or she isn’t there.” Employees today are more educated and more capable of participating in organizational decision making than ever before. In most cases, they expect to be delegated authority and responsibility and to be held accountable for results. Delegation of authority is embedded in the strategic-management process.

Motivating Motivating can be defined as the process of influencing people to accomplish specific objec- tives.11 Motivation explains why some people work hard and others do not. Objectives, strate- gies, and policies have little chance of succeeding if employees and managers are not motivated to implement strategies once they are formulated. The motivating function of management includes at least four major components: leadership, group dynamics, communication, and orga- nizational change.

When managers and employees of a firm strive to achieve high levels of productivity, this indicates that the firm’s strategists are good leaders. Good leaders establish rapport with subor- dinates, empathize with their needs and concerns, set a good example, and are trustworthy and fair. Leadership includes developing a vision of the firm’s future and inspiring people to work hard to achieve that vision. Kirkpatrick and Locke reported that certain traits also characterize effective leaders: knowledge of the business, cognitive ability, self-confidence, honesty, integ- rity, and drive.12

ChaPter 4 • the internal aSSeSSment 103

Research suggests that democratic behavior on the part of leaders results in more positive attitudes toward change and higher productivity than does autocratic behavior. Drucker said:

Leadership is not a magnetic personality. That can just as well be demagoguery. It is not “making friends and influencing people.” That is flattery. Leadership is the lifting of a person’s vision to higher sights, the raising of a person’s performance to a higher standard, the building of a person’s personality beyond its normal limitations.13

Group dynamics play a major role in employee morale and satisfaction. Informal groups or coalitions form in every organization. The norms of coalitions can range from being very posi- tive to very negative toward management. It is important, therefore, that strategists identify the composition and nature of informal groups in an organization to facilitate strategy formulation, implementation, and evaluation. Leaders of informal groups are especially important in formu- lating and implementing strategy changes.

Communication, perhaps the most important word in management, is a major component in motivation. An organization’s system of communication determines whether strategies can be implemented successfully. Good two-way communication is vital for gaining support for depart- mental and divisional objectives and policies. Top-down communication can encourage bottom- up communication. The strategic-management process becomes a lot easier when subordinates are encouraged to discuss their concerns, reveal their problems, provide recommendations, and give suggestions. A primary reason for instituting strategic management is to build and support effective communication networks throughout the firm.

The manager of tomorrow must be able to get his people to commit themselves to the business, whether they are machine operators or junior vice-presidents. The key issue will be empowerment, a term whose strength suggests the need to get beyond merely sharing a little information and a bit of decision making.14

Staffing The management function of staffing, also called personnel management or human resource management, includes activities such as recruiting, interviewing, testing, selecting, orienting, training, developing, caring for, evaluating, rewarding, disciplining, promoting, transferring, demoting, and dismissing employees, as well as managing union relations.

Staffing activities play a major role in strategy-implementation efforts, and for this reason, human resource managers are becoming more actively involved in the strategic-management process. It is important to identify strengths and weaknesses in the staffing area.

The complexity and importance of human resource activities have increased to such a degree that all but the smallest organizations now need a full-time human resource manager. Numerous court cases that directly affect staffing activities are decided each day. Organizations and individuals can be penalized severely for not following federal, state, and local laws and guidelines related to staffing. Line managers simply cannot stay abreast of all the legal devel- opments and requirements regarding staffing. The human resources department coordinates staffing decisions in the firm so that an organization as a whole meets legal requirements. This department also provides needed consistency in administering company rules, wages, policies, and employee benefits as well as collective bargaining with unions.

Human resource management is particularly challenging for international companies. For example, the inability of spouses and children to adapt to new surroundings can be a staffing problem in overseas transfers. The problems include premature returns, job performance slumps, resignations, discharges, low morale, marital discord, and general discontent. Firms such as Ford Motor and ExxonMobil screen and interview spouses and children before assigning persons to overseas positions. 3M Corporation introduces children to peers in the target country and offers spouses educational benefits.

Controlling The controlling function of management includes all of those activities undertaken to ensure that actual operations conform to planned operations. All managers in an organization have controlling responsibilities, such as conducting performance evaluations and taking necessary

104 Part 2 • StrategY formulation

action to minimize inefficiencies. The controlling function of management is particularly impor- tant for effective strategy evaluation. Controlling consists of four basic steps:

1. Establishing performance standards 2. Measuring individual and organizational performance 3. Comparing actual performance to planned performance standards 4. Taking corrective actions

Measuring individual performance is often conducted ineffectively or not at all in organi- zations. Some reasons for this shortcoming are that evaluations can create confrontations that most managers prefer to avoid, can take more time than most managers are willing to give, and can require skills that many managers lack. No single approach to measuring individual perfor- mance is without limitations. For this reason, an organization should examine various methods, such as the graphic rating scale, the behaviorally anchored rating scale, and the critical incident method, and then develop or select a performance-appraisal approach that best suits the firm’s needs. Increasingly, firms are striving to link organizational performance with managers’ and employees’ pay. This topic is discussed further in Chapter 7.

Management Audit Checklist of Questions The following checklist of questions can help determine specific strengths and weaknesses in the functional area of business. An answer of no to any question could indicate a potential weakness, although the strategic significance and implications of negative answers, of course, will vary by organization, industry, and severity of the weakness. Positive or yes answers to the checklist questions suggest potential areas of strength.

1. Does the firm use strategic-management concepts? 2. Are company objectives and goals measurable and well communicated? 3. Do managers at all hierarchical levels plan effectively? 4. Do managers delegate authority well? 5. Is the organization’s structure appropriate? 6. Are job descriptions and job specifications clear? 7. Is employee morale high? 8. Are employee turnover and absenteeism low? 9. Are organizational reward and control mechanisms effective?

Marketing Marketing can be described as the process of defining, anticipating, creating, and fulfill- ing customers’ needs and wants for products and services. There are seven basic functions of marketing: (1) customer analysis, (2) selling products/services, (3) product and service planning, (4) pricing, (5) distribution, (6) marketing research, and (7) opportunity analysis.15 Understanding these functions helps strategists identify and evaluate marketing strengths and weaknesses.

Customer Analysis Customer analysis—the examination and evaluation of consumer needs, desires, and wants— involves administering customer surveys, analyzing consumer information, evaluating market positioning strategies, developing customer profiles, and determining optimal market segmenta- tion strategies. The information generated by customer analysis can be essential in developing an effective mission statement. Customer profiles can reveal the demographic characteristics of an organization’s customers. Buyers, sellers, distributors, salespeople, managers, wholesalers, retailers, suppliers, and creditors can all participate in gathering information to successfully identify customers’ needs and wants. Successful organizations continually monitor present and potential customers’ buying patterns.

Selling Products/Services Successful strategy implementation generally rests upon the ability of an organization to sell some product or service. Selling includes many marketing activities, such as advertising, sales

ChaPter 4 • the internal aSSeSSment 105

promotion, publicity, personal selling, sales force management, customer relations, and dealer relations. These activities are especially critical when a firm pursues a market penetration strategy. The effectiveness of various selling tools for consumer and industrial products varies. Personal selling is most important for industrial goods companies, whereas advertising is most important for consumer goods companies.

Internet advertising revenues received from firms such as Google, Amazon, Yahoo, and Facebook reached a record $12.1 billion in the first half of 2010, up more than 11 percent from the first half of the prior year, according to the Interactive Advertising Bureau. In contrast, newspaper advertising in 2010 totaled $7.3 billion, down 4.7 percent from the prior year and the lowest total since 1985.

Total advertising expenditures in the United States in 2011 is expected to be $155.2 bil- lion, up 2.5 percent from the prior year. Global ad spending, however, is forecast to increase 4.2 percent to $470.8 billion. ZenithOptimedia expects the largest ad spending increases in the U.S. in 2011 to flow to the Internet, which is projected to increase 13 percent. One aspect of ads in a recession is that they generally take more direct aim at competitors, and this marketing practice is holding true in our bad economic times. Nick Brien at Mediabrands says, “Ads have to get combative in bad times. It’s a dog fight, and it’s about getting leaner and meaner.” Ads are less lavish and glamorous today and are also more interactive. Table 4-4 lists specific characteristics of ads forthcoming in 2012 in response to the economic hard times many people nationwide and worldwide are facing.

Marketers spent between $2.8 and $3 million per 30-second advertising spot during the 2011 Super Bowl between the Pittsburg Steelers and Green Bay Packers. Advertising can be very expensive, and that is why marketing is a major business function to be studied carefully. Without marketing, even the best products and services have little chance of being successful.

A private company and the world’s largest social network, Facebook, may epitomize where the advertising industry is going. Facebook subtly injects the advertiser’s brand into the user’s consciousness in order to provoke a purchase down the line by getting you to “like” the brand. Companies such as Ford, 7-Eleven, and McDonald’s have recently unveiled new products on their Facebook pages. Starbucks offers coupons and free pastries to its 14 million Facebook fans. BP used its Facebook page to release statements and photos during the Gulf Oil Crisis. Anton Vincent, marketing vice president for General Mills’ baking products division, says that Facebook allows a company to “leverage the loyalty” of its best customers. If you have recently gotten engaged and updated your Facebook status, you may start seeing ads from local jewelers who have used Facebook’s automated ad system to target you. Facebook enables any firm today to very effectively target their exact audience with perfect advertising.16 In performing a strate- gic planning analysis, in addition to comparing rival firms’ websites, it is important to compare rival firms’ Facebook page.

One of the last off-limit advertising outlets has historically been books, but with the prolif- eration of e-books, marketers are experimenting more and more with advertising to consumers as they read e-books. New ads are being targeted based on the book’s content and the demo- graphic profile of the reader. Digital e-book companies such as Wowio and Amazon are trying to

TAble 4-4 Desirable Characteristics of Ads Today

1. Take direct aim at competitors; so leaner, meaner, and to the point.

2. Be less lavish and glamorous, requiring less production dollars to develop.

3. Be short and sweet, mostly 10- and 15-second ads rather than 30+ seconds.

4. “Make you feel good” or “put you in a good mood” because (a) ads can be more easily avoided than ever and (b) people are experiencing hard times and seek comfort.

5. Be more pervasive such as on buses, elevators, cell phones, and trucks.

6. Appear less on websites as banner ads become the new junk mail.

7. Red will overtake the color orange as the most popular ad color.

8. More than ever emphasize low price and value versus rivals.

9. More than ever emphasize how the product/service will make your life better.

Source: Based on Suzanne Vranica, “Ads to Go Leaner, Meaner in ’09,” Wall Street Journal, January 5, 2009, B8.

106 Part 2 • StrategY formulation

insert ads between chapters and along borders of digital pages. Random House says its e-books will soon include ads, but only with author approval. Global advertising expenditures are ex- pected to grow 4.6 percent in 2011 and a bit more in 2012.

Determining organizational strengths and weaknesses in the selling function of marketing is an important part of performing an internal strategic-management audit. With regard to advertis- ing products and services on the Internet, a new trend is to base advertising rates exclusively on sales rates. This new accountability contrasts sharply with traditional broadcast and print adver- tising, which bases rates on the number of persons expected to see a given advertisement. The new cost-per-sale online advertising rates are possible because any website can monitor which user clicks on which advertisement and then can record whether that consumer actually buys the product. If there are no sales, then the advertisement is free.

Product and Service Planning Product and service planning includes activities such as test marketing; product and brand positioning; devising warranties; packaging; determining product options, features, style, and quality; deleting old products; and providing for customer service. Product and service planning is particularly important when a company is pursuing product development or diversification.

One of the most effective product and service planning techniques is test marketing. Test markets allow an organization to test alternative marketing plans and to forecast future sales of new products. In conducting a test market project, an organization must decide how many cities to include, which cities to include, how long to run the test, what information to collect during the test, and what action to take after the test has been completed. Test marketing is used more frequently by consumer goods companies than by industrial goods companies. Test marketing can allow an organization to avoid substantial losses by revealing weak products and ineffective marketing approaches before large-scale production begins. Starbucks is currently test market- ing selling beer and wine in its stores to boost its “after 5 pm” sales.

Pricing Five major stakeholders affect pricing decisions: consumers, governments, suppliers, distribu- tors, and competitors. Sometimes an organization will pursue a forward integration strategy primarily to gain better control over prices charged to consumers. Governments can impose constraints on price fixing, price discrimination, minimum prices, unit pricing, price advertis- ing, and price controls. For example, the Robinson-Patman Act prohibits manufacturers and wholesalers from discriminating in price among channel member purchasers (suppliers and distributors) if competition is injured.

Competing organizations must be careful not to coordinate discounts, credit terms, or con- dition of sale; not to discuss prices, markups, and costs at trade association meetings; and not to arrange to issue new price lists on the same date, to rotate low bids on contracts, or to uniformly restrict production to maintain high prices. Strategists should view price from both a short-run and a long-run perspective, because competitors can copy price changes with relative ease. Often a dominant firm will aggressively match all price cuts by competitors.

With regard to pricing, as the value of the dollar increases, U.S. multinational companies have a choice. They can raise prices in the local currency of a foreign country or risk losing sales and market share. Alternatively, multinational firms can keep prices steady and face reduced profit when their export revenue is reported in the United States in dollars.

Intense price competition, coupled with Internet price-comparative shopping, has reduced profit margins to bare minimum levels for most companies. For example, airline tickets, rental car prices, hotel room rates, and computer prices are lower today than they have been in many years.

PepsiCo. Inc. recently raised prices for its Tropicana juice line by up to 8 percent after the 2011 harsh winter crushed Florida’s citrus crop in many places. Also due to especially cold winters hurting citrus crops, Coca-Cola Co. recently raised prices of their Minute Maid and Simply Juice brands. Fruit and vegetable prices are rising dramatically all over the world as a result not only of harsh winters, but also rising gas prices, which significantly increases the cost of transporting perishable products. The rapid rise in food commodity prices is attributed as one reason why regimes in Tunisia, Egypt, Yemen, and Libya toppled. Global populations are growing, becoming more prosperous and informed, and draining stockpiles of grain and meat.

ChaPter 4 • the internal aSSeSSment 107

Corn inventories are used in food, feed, and fuel, and that reserve fell to just 50 days recently, a 37-year low. Soybean stockpiles worldwide are the lowest in two decades. Consumers world- wide are seeing high food prices at supermarkets.

Distribution Distribution includes warehousing, distribution channels, distribution coverage, retail site loca- tions, sales territories, inventory levels and location, transportation carriers, wholesaling, and retailing. Most producers today do not sell their goods directly to consumers. Various marketing entities act as intermediaries; they bear a variety of names such as wholesalers, retailers, brokers, facilitators, agents, vendors—or simply distributors.

Distribution becomes especially important when a firm is striving to implement a market development or forward integration strategy. Some of the most complex and challenging deci- sions facing a firm concern product distribution. Intermediaries flourish in our economy be- cause many producers lack the financial resources and expertise to carry out direct marketing. Manufacturers who could afford to sell directly to the public often can gain greater returns by expanding and improving their manufacturing operations.

Successful organizations identify and evaluate alternative ways to reach their ultimate mar- ket. Possible approaches vary from direct selling to using just one or many wholesalers and re- tailers. Strengths and weaknesses of each channel alternative should be determined according to economic, control, and adaptive criteria. Organizations should consider the costs and benefits of various wholesaling and retailing options. They must consider the need to motivate and control channel members and the need to adapt to changes in the future. Once a marketing channel is chosen, an organization usually must adhere to it for an extended period of time.

Marketing Research Marketing research is the systematic gathering, recording, and analyzing of data about prob- lems relating to the marketing of goods and services. Marketing research can uncover critical strengths and weaknesses, and marketing researchers employ numerous scales, instruments, procedures, concepts, and techniques to gather information. Marketing research activities sup- port all of the major business functions of an organization. Organizations that possess excellent marketing research skills have a definite strength in pursuing generic strategies. The president of PepsiCo said,

“Looking at the competition is the company’s best form of market research. The major- ity of our strategic successes are ideas that we borrow from the marketplace, usually from a small regional or local competitor. In each case, we spot a promising new idea, improve on it, and then out-execute our competitor.”17

Cost/Benefit Analysis The seventh function of marketing is cost/benefit analysis, which involves assessing the costs, benefits, and risks associated with marketing decisions. Three steps are required to perform a cost/benefit analysis: (1) compute the total costs associated with a decision, (2) estimate the total benefits from the decision, and (3) compare the total costs with the total benefits. When expected benefits exceed total costs, an opportunity becomes more attractive. Sometimes the variables included in a cost/benefit analysis cannot be quantified or even measured, but usually reasonable estimates can be made to allow the analysis to be performed. One key factor to be considered is risk. Cost/benefit analysis should also be performed when a company is evaluating alternative ways to be socially responsible.

The practice of cost/benefit analysis differs among countries and industries. Some of the main differences include the types of impacts that are included as costs and benefits within ap- praisals, the extent to which impacts are expressed in monetary terms, and differences in the discount rate. Government agencies across the world rely on a basic set of key cost/benefit indicators, including the following:

1. NPV (net present value) 2. PVB (present value of benefits)

108 Part 2 • StrategY formulation

3. PVC (present value of costs) 4. BCR (benefit cost ratio = PVB / PVC) 5. Net benefit (= PVB – PVC) 6. NPV/k (where k is the level of funds available)18

Marketing Audit Checklist of Questions The following questions about marketing must be examined in strategic planning:

1. Are markets segmented effectively? 2. Is the organization positioned well among competitors? 3. Has the firm’s market share been increasing? 4. Are present channels of distribution reliable and cost effective? 5. Does the firm have an effective sales organization? 6. Does the firm conduct market research? 7. Are product quality and customer service good? 8. Are the firm’s products and services priced appropriately? 9. Does the firm have an effective promotion, advertising, and publicity strategy? 10. Are marketing, planning, and budgeting effective? 11. Do the firm’s marketing managers have adequate experience and training? 12. Is the firm’s Internet presence excellent as compared to rivals?

Finance/Accounting Financial condition is often considered the single best measure of a firm’s competitive position and overall attractiveness to investors. Determining an organization’s financial strengths and weaknesses is essential to effectively formulating strategies. A firm’s liquidity, leverage, work- ing capital, profitability, asset utilization, cash flow, and equity can eliminate some strategies as being feasible alternatives. Financial factors often alter existing strategies and change imple- mentation plans.

Especially good websites from which to obtain financial information about firms are pro- vided in Table 4-5.

Finance/Accounting Functions According to James Van Horne, the functions of finance/accounting comprise three decisions: the investment decision, the financing decision, and the dividend decision.19 Financial ratio analysis is the most widely used method for determining an organization’s strengths and weak- nesses in the investment, financing, and dividend areas. Because the functional areas of business are so closely related, financial ratios can signal strengths or weaknesses in management, mar- keting, production, research and development, and management information systems activities. Financial ratios are equally applicable in for-profit and nonprofit organizations. Even though nonprofit organizations obviously would not have return-on-investment or earnings-per-share ratios, they would routinely monitor many other special ratios. For example, a church would

TAble 4-5 Excellent Websites to Obtain Information on Companies, Including Financial Ratios

1. http://marketwatch.multexinvestor.com

2. http://moneycentral.msn.com

3. http://finance.yahoo.com

4. www.clearstation.com

5. http://us.etrade.com/e/t/invest/markets

6. www.hoovers.com

7. http://globaledge.msu.edu/industries/

ChaPter 4 • the internal aSSeSSment 109

monitor the ratio of dollar contributions to number of members, while a zoo would monitor dollar food sales to number of visitors. A university would monitor number of students divided by number of professors. Therefore, be creative when performing ratio analysis for nonprofit organizations because they strive to be financially sound just as for-profit firms do.

The investment decision, also called capital budgeting, is the allocation and reallocation of capital and resources to projects, products, assets, and divisions of an organization. Once strategies are formulated, capital budgeting decisions are required to successfully implement strategies. The financing decision determines the best capital structure for the firm and includes examining various methods by which the firm can raise capital (for example, by issuing stock, increasing debt, selling assets, or using a combination of these approaches). The financing deci- sion must consider both short-term and long-term needs for working capital. Two key financial ratios that indicate whether a firm’s financing decisions have been effective are the debt-to- equity ratio and the debt-to-total-assets ratio.

Dividend decisions concern issues such as the percentage of earnings paid to stockholders, the stability of dividends paid over time, and the repurchase or issuance of stock. Dividend deci- sions determine the amount of funds that are retained in a firm compared to the amount paid out to stockholders. Three financial ratios that are helpful in evaluating a firm’s dividend decisions are the earnings-per-share ratio, the dividends-per-share ratio, and the price-earnings ratio. The benefits of paying dividends to investors must be balanced against the benefits of internally re- taining funds, and there is no set formula on how to balance this trade-off. For the reasons listed here, dividends are sometimes paid out even when funds could be better reinvested in the busi- ness or when the firm has to obtain outside sources of capital:

1. Paying cash dividends is customary. Failure to do so could be thought of as a stigma. A dividend change is considered a signal about the future.

2. Dividends represent a sales point for investment bankers. Some institutional investors can buy only dividend-paying stocks.

3. Shareholders often demand dividends, even in companies with great opportunities for rein- vesting all available funds.

4. A myth exists that paying dividends will result in a higher stock price.

Most companies have ceased cutting and instead are raising their dividend payout. General Electric raised its quarterly dividend twice in 2010. Honeywell Inc. recently raised its annual dividend 10 percent to $1.33 a share while Germany’s Siemens AG raised its dividend 68 percent to $3.57 a share. Siemens strives to pay out 30 to 50 percent of its net income to share- holders. S&P says there were 59 dividend increases in the fourth quarter of 2010 alone, up 25 percent from 2009. S&P expects that more than 50 percent of the S&P 500 firms will raise their dividend payout in 2011.20

McDonald’s has raised its dividend payout for 35 years in a row, including recent years. Among all S&P 500 companies, 255 increased their dividends in 2010, up from 157 in 2009, and that trend is accelerating as firms’ cash reserves grow. In addition to boosting dividend payouts, companies are also buying back their own stock more often and in larger amounts. Investors love dividends and other methods companies use to return capital to shareholders. Other companies recently raising their dividend rate are Tyco International Ltd. (to $0.25 per share per quarter from $0.21), Staples, Inc. (to $0.10 per quarter from $0.09), Prudential PLC (to 23.85 pence from 19.85), Bank of Nova Scotia (to C$0.52 from C$0.49 per share per quarter), Qualcomm Inc. (from $0.19 to $0.215 per share per quarter), and Applied Materials, Inc.(to $0.08 from $0.07 per share per quarter).

Basic Types of Financial Ratios Financial ratios are computed from an organization’s income statement and balance sheet. Computing financial ratios is like taking a picture because the results reflect a situation at just one point in time. Comparing ratios over time and to industry averages is more likely to result in meaningful statistics that can be used to identify and evaluate strengths and weaknesses. Trend analysis, illustrated in Figure 4-3, is a useful technique that incorporates both the time and in- dustry average dimensions of financial ratios. Note that the dotted lines reveal projected ratios. Some websites, such as those provided in Table 4-5, calculate financial ratios and provide data with charts.

110 Part 2 • StrategY formulation

Table 4-6 provides a summary of key financial ratios showing how each ratio is calculated and what each ratio measures. However, all the ratios are not significant for all industries and companies. For example, accounts receivable turnover and average collection period are not very meaningful to a company that primarily does a cash receipts business. Key financial ratios can be classified into the following five types:

1. Liquidity ratios measure a firm’s ability to meet maturing short-term obligations. Current ratio Quick (or acid-test) ratio

2. Leverage ratios measure the extent to which a firm has been financed by debt. Debt-to-total-assets ratio Debt-to-equity ratio Long-term debt-to-equity ratio Times-interest-earned (or coverage) ratio

3. Activity ratios measure how effectively a firm is using its resources. Inventory turnover Fixed assets turnover Total assets turnover Accounts receivable turnover Average collection period

4. Profitability ratios measure management’s overall effectiveness as shown by the returns generated on sales and investment. Gross profit margin Operating profit margin Net profit margin Return on total assets (ROA) Return on stockholders’ equity (ROE) Earnings per share (EPS) Price-earnings ratio

Figure 4-3

A Financial ratio Trend Analysis

5.0 4.0 3.0 2.0 1.0 0.0

2009

Current ratio

2009

Profit margin

10% 9% 8% 7% 6% 5% 4% 3% 2% 1% 0

2010 2011 2012 2013

2010 2011 2012 2013

Industry average

Company

Company

Industry average

(percent)

ChaPter 4 • the internal aSSeSSment 111

TAble 4-6 A Summary of Key Financial Ratios

Ratio how Calculated What It Measures

Liquidity Ratios

Current Ratio Current assets

Current liabilities

The extent to which a firm can meet its short-term obligations

Quick Ratio Current assets minus inventory

Current liabilities

The extent to which a firm can meet its short-term obligations without relying upon the sale of its inventories

Leverage Ratios

Debt-to-Total-Assets Ratio Total debt

Total assets

The percentage of total funds that are pro- vided by creditors

Debt-to-Equity Ratio Total debt

Total stockholders’ equity

The percentage of total funds provided by creditors versus by owners

Long-Term Debt-to-Equity Ratio Long-term debt

Total stockholders’ equity

The balance between debt and equity in a firm’s long-term capital structure

Times-Interest-Earned Ratio Profits before interest and taxes

Total interest charges

The extent to which earnings can decline without the firm becoming unable to meet its annual interest costs

Activity Ratios

Inventory Turnover Sales

Inventory of finished goods

Whether a firm holds excessive stocks of inventories and whether a firm is slowly selling its inventories compared to the in- dustry average

Fixed Assets Turnover Sales

Fixed assets

Sales productivity and plant and equipment utilization

Total Assets Turnover Sales

Total assets

Whether a firm is generating a sufficient volume of business for the size of its asset investment

Accounts Receivable Turnover Annual credit sales

Accounts receivable

The average length of time it takes a firm to collect credit sales (in percentage terms)

Average Collection Period Accounts receivable

Total credit sales/365 days

The average length of time it takes a firm to collect on credit sales (in days)

Profitability Ratios

Gross Profit Margin Sales minus cost of goods sold

Sales

The total margin available to cover operat- ing expenses and yield a profit

Operating Profit Margin Earnings before interest and taxes EBIT

Sales

Profitability without concern for taxes and interest

Net Profit Margin Net income

Sales

After-tax profits per dollar of sales

Return on Total Assets (ROA) Net income

Total assets

After-tax profits per dollar of assets; this ra- tio is also called return on investment (ROI)

Return on Stockholders’ Equity (ROE) Net income

Total stockholders’ equity

After-tax profits per dollar of stockholders’ investment in the firm

Earnings Per Share (EPS) Net income

Number of shares of common stock outstanding

Earnings available to the owners of com- mon stock

Price-Earnings Ratio Market price per share

Earnings per share

Attractiveness of firm on equity markets

(continued)

112 Part 2 • StrategY formulation

TAble 4-6 A Summary of Key Financial Ratios

Ratio how Calculated What It Measures

Growth Ratios

Sales Annual percentage growth in total sales Firm’s growth rate in sales

Net Income Annual percentage growth in profits Firm’s growth rate in profits

Earnings Per Share Annual percentage growth in EPS Firm’s growth rate in EPS

Dividends Per Share Annual percentage growth in dividends per share Firm’s growth rate in dividends per share

5. Growth ratios measure the firm’s ability to maintain its economic position in the growth of the economy and industry. Sales Net income Earnings per share Dividends per share

Financial ratio analysis must go beyond the actual calculation and interpretation of ratios. The analysis should be conducted on three separate fronts:

1. How has each ratio changed over time? This information provides a means of evaluating historical trends. It is important to note whether each ratio has been historically increasing, decreasing, or nearly constant. For example, a 10 percent profit margin could be bad if the trend has been down 20 percent each of the last three years. But a 10 percent profit margin could be excellent if the trend has been up, up, up. Therefore, calculate the percentage change in each ratio from one year to the next to assess historical financial performance on that dimension. Identify and examine large percent changes in a financial ratio from one year to the next.

2. How does each ratio compare to industry norms? A firm’s inventory turnover ratio may appear impressive at first glance but may pale when compared to industry standards or norms. Industries can differ dramatically on certain ratios. For example grocery companies, such as Kroger, have a high inventory turnover whereas automobile dealerships have a lower turnover. Therefore, comparison of a firm’s ratios within its particular industry can be essential in determining strength/weakness.

3. How does each ratio compare with key competitors? Oftentimes competition is more in- tense between several competitors in a given industry or location than across all rival firms in the industry. When this is true, financial ratio analysis should include comparison to those key competitors. For example, if a firm’s profitability ratio is trending up over time and compares favorably to the industry average, but it is trending down relative to its lead- ing competitor, there may be reason for concern.

Financial ratio analysis is not without some limitations. First of all, financial ratios are based on accounting data, and firms differ in their treatment of such items as depreciation, inventory valuation, research and development expenditures, pension plan costs, mergers, and taxes. Also, seasonal factors can influence comparative ratios. Therefore, conformity to industry composite ratios does not establish with certainty that a firm is performing normally or that it is well managed. Likewise, departures from industry averages do not always indicate that a firm is doing especially well or badly. For example, a high inventory turnover ratio could indicate ef- ficient inventory management and a strong working capital position, but it also could indicate a serious inventory shortage and a weak working capital position.

It is important to recognize that a firm’s financial condition depends not only on the functions of finance, but also on many other factors that include (1) management, marketing, management production/operations, research and development, and management information systems decisions; (2) actions by competitors, suppliers, distributors, creditors, customers, and

—continued

ChaPter 4 • the internal aSSeSSment 113

shareholders; and (3) economic, social, cultural, demographic, environmental, political, govern- mental, legal, and technological trends.

Since consumers remain price sensitive, many firms have lowered prices to compete. As a firm lowers prices, its breakeven (BE) point in terms of units sold increases, as illustrated in Figure 4-4. The breakeven point can be defined as the quantity of units that a firm must sell in order for its total revenues (TR) to equal its total costs (TC). Note that the before and after chart in Figure 4-4 reveals that the Total Revenue (TR) line rotates to the right with a decrease in Price, thus increasing the Quantity (Q) that must be sold just to break even. Increasing the breakeven point is thus a huge drawback of lowering prices. Of course when rivals are lowering prices, a firm may have to lower prices anyway to compete. However, the breakeven concept should be kept in mind because it is so important, especially in recession- ary times.

Notice in Figure 4-5 that increasing Fixed Costs (FC) also raises a firm’s breakeven quantity. Note the before and after chart in Figure 4-5 reveals that adding fixed costs such as more stores, or more plants, or even more advertising as part of a strategic plan raises the Total Cost (TC) line, which makes the intersection of the Total Cost (TC) and Total Revenue (TR) lines at a point farther down the Quantity axis. Increasing a firm’s fixed costs (FC) thus significantly raises the quantity of goods that must be sold to break even. This is not just the- ory for the sake of theory. Firms with less fixed costs, such as Apple and Amazon.com, have lower breakeven points, which give them a decided competitive advantage in harsh economic times. Figure 4-5 reveals that adding fixed costs (FC), such as plant, equipment, stores, ad- vertising, and land, may be detrimental whenever there is doubt that significantly more units can be sold to offset those expenditures.

Firms must be cognizant of the fact that lowering prices and adding fixed costs could be a catastrophic double whammy because the firm’s breakeven quantity needed to be sold is in- creased dramatically. Figure 4-6 illustrates this double whammy. Note how far the breakeven

Figure 4-4

A before and After breakeven Chart When Prices Are lowered

Before AfterTR

BE BE

TC TC

TR

VC VC

FC FC

Q Q

$ $

Figure 4-5

A before and After breakeven Chart When Fixed Costs Are increased After TR

BE

TC

VC

FC

$

Before

TR

BE

TC

VC

FC

Q Q

$

114 Part 2 • StrategY formulation

point shifts with both a price decrease and an increase in fixed costs. If a firm does not breakeven, then it will of course incur losses, and losses are not good, especially sustained losses.

Finally, note in Figure 4-4, 4-5, and 4-6 that Variable Costs (VC) such as labor and materials, when increased, have the effect of raising the breakeven point, too. Raising Variable Costs is reflected by the Variable Cost line shifting left or becoming steeper. When the Total Revenue (TR) line remains constant, the effect of increasing Variable Costs is to increase Total Costs, which increases the point at which Total Revenue = Total Costs (TC) = Breakeven (BE).

Suffice it to say here that various strategies can have dramatically beneficial or harmful ef- fects on the firm’s financial condition due to the concept of breakeven analysis.

There are some limitations of breakeven analysis, including the following points:

1. Breakeven analysis is only a supply side (i.e. costs only) analysis, as it tells you nothing about what sales are likely to be for the product at various prices.

2. It assumes that fixed costs (FC) are constant. Although this is true in the short run, an in- crease in the scale of production will cause fixed costs to rise.

3. It assumes average variable costs are constant per unit of output, at least in the range of likely quantities of sales.

4. It assumes that the quantity of goods produced is equal to the quantity of goods sold (i.e., there is no change in beginning or ending inventory).

5. In multi-product companies, it assumes that the relative proportions of each product sold and produced are constant (i.e., the sales mix is constant).21

Finance/Accounting Audit Checklist The following finance/accounting questions, like the similar questions about marketing and management earlier, should be examined:

1. Where is the firm financially strong and weak as indicated by financial ratio analyses? 2. Can the firm raise needed short-term capital? 3. Can the firm raise needed long-term capital through debt and/or equity? 4. Does the firm have sufficient working capital? 5. Are capital budgeting procedures effective? 6. Are dividend payout policies reasonable? 7. Does the firm have good relations with its investors and stockholders? 8. Are the firm’s financial managers experienced and well trained? 9. Is the firm’s debt situation excellent?

Figure 4-6

A before and After breakeven Chart When Prices Are lowered and Fixed Costs Are increased

$

Before After TR

TR

BE

BE

TC

TC

VC

VC

FC

FC

Q Q

$

ChaPter 4 • the internal aSSeSSment 115

Production/Operations The production/operations function of a business consists of all those activities that transform inputs into goods and services. Production/operations management deals with inputs, transforma- tions, and outputs that vary across industries and markets. A manufacturing operation transforms or converts inputs such as raw materials, labor, capital, machines, and facilities into finished goods and services. As indicated in Table 4-7, Roger Schroeder suggested that production/operations management comprises five functions or decision areas: process, capacity, inventory, workforce, and quality.

Most automakers require a 30-day notice to build vehicles, but Toyota Motor fills a buyer’s new car order in just five days. Honda Motor was considered the industry’s fastest producer, fill- ing orders in 15 days. Automakers have for years operated under just-in-time inventory systems, but Toyota’s 360 suppliers are linked to the company via computers on a virtual assembly line. The new Toyota production system was developed in the company’s Cambridge, Ontario, plant and now applies to its Solara, Camry, Corolla, and Tacoma vehicles.

Production/operations activities often represent the largest part of an organization’s human and capital assets. In most industries, the major costs of producing a product or service are in- curred within operations, so production/operations can have great value as a competitive weapon in a company’s overall strategy. Strengths and weaknesses in the five functions of production can mean the success or failure of an enterprise.

Many production/operations managers are finding that cross-training of employees can help their firms respond faster to changing markets. Cross-training of workers can increase efficiency, quality, productivity, and job satisfaction. For example, at General Motors’ Detroit gear and axle plant, costs related to product defects were reduced 400 percent in two years as a result of cross- training workers. As shown in Table 4-8, James Dilworth outlined implications of several types of strategic decisions that a company might make.

Singapore rivals Hong Kong as an attractive site for locating production facilities in Southeast Asia. Singapore is a city-state near Malaysia. An island nation of about 4 million, Singapore is changing from an economy built on trade and services to one built on information technology. A large-scale program in computer education for older (over age 26) residents is very popular. Singapore children receive outstanding computer training in schools. All govern- ment services are computerized nicely. Singapore lures multinational businesses with great tax breaks, world-class infrastructure, excellent courts that efficiently handle business disputes, exceptionally low tariffs, large land giveaways, impressive industrial parks, excellent port facili- ties, and a government very receptive to and cooperative with foreign businesses. Foreign firms now account for 70 percent of manufacturing output in Singapore.

In terms of ship container traffic processed annually, Singapore has the largest and busiest seaport in the world, followed by Hong Kong, Shanghai, Los Angeles, Busan (South Korea), Rotterdam, Hamburg, New York, and Tokyo. The Singapore seaport is five times the size of the New York City seaport.22

TAble 4-7 The Basic Functions (Decisions) Within Production/Operations

Decision Areas Example Decisions

1. Process These decisions include choice of technology, facility layout, process flow analysis, facility location, line balancing, process control, and transportation analysis. Distances from raw materials to production sites to customers are a major consideration.

2. Capacity These decisions include forecasting, facilities planning, aggregate planning, scheduling, capacity planning, and queuing analysis. Capacity utilization is a major consideration.

3. Inventory These decisions involve managing the level of raw materials, work-in-process, and finished goods, especially considering what to order, when to order, how much to order, and materials handling.

4. Workforce These decisions involve managing the skilled, unskilled, clerical, and managerial employees by caring for job design, work measurement, job enrichment, work standards, and motivation techniques.

5. Quality These decisions are aimed at ensuring that high-quality goods and services are produced by caring for quality control, sampling, testing, quality assurance, and cost control.

Source: Based on R. Schroeder, Operations Management (New York: McGraw-Hill, 1981), 12.

116 Part 2 • StrategY formulation

TAble 4-8 Implications of Various Strategies on Production/Operations

Various Strategies Implications

1. Low-cost provider Creates high barriers to entry

Creates larger market

Requires longer production runs and fewer product changes

2. A high-quality provider Requires more quality-assurance efforts

Requires more expensive equipment

Requires highly skilled workers and higher wages

3. Provide great customer service Requires more service people, service parts, and equipment

Requires rapid response to customer needs or changes in customer tastes

Requires a higher inventory investment

4. Be the first to introduce new products Has higher research and development costs

Has high retraining and tooling costs

5. Become highly automated Requires high capital investment

Reduces flexibility

May affect labor relations

Makes maintenance more crucial

6. Minimize layoffs Serves the security needs of employees and may develop employee loyalty

Helps to attract and retain highly skilled employees

Source: Based on: J. Dilworth, Production and Operations Management: Manufacturing and Nonmanufacturing, 2nd ed. Copyright © 1983 by Random House, Inc.

Production/Operations Audit Checklist Questions such as the following should be examined:

1. Are supplies of raw materials, parts, and subassemblies reliable and reasonable? 2. Are facilities, equipment, machinery, and offices in good condition? 3. Are inventory-control policies and procedures effective? 4. Are quality-control policies and procedures effective? 5. Are facilities, resources, and markets strategically located? 6. Does the firm have technological competencies?

Research and Development Apple Inc. continues to develop and sell new products such as the iPhone and iPad despite spending less on R&D over the last 10 years than rival Microsoft did even in fiscal 2010 alone.23 Microsoft routinely spends 14 to 15 percent of its sales on R&D, or $8.7 billion in fiscal 2010, compared to Apple every year spending about 2.5 percent of its annual sales on R&D. The cor- relation between R&D expenditures and successful product launches is not high. Thus, firms such as Research in Motion (RIM) and Nokia are reducing their R&D expenditures, especially as a percent of sales. RIM is spending $1.35 billion in fiscal 2011 on R&D or about 6 percent of revenues, compared to Nokia spending 13.8 percent of sales in 2010.

The fifth major area of internal operations that should be examined for specific strengths and weaknesses is research and development (R&D). Many firms today conduct no R&D, and yet many other companies depend on successful R&D activities for survival. Firms pursuing a product development strategy especially need to have a strong R&D orientation.

Organizations invest in R&D because they believe that such an investment will lead to a superior product or service and will give them competitive advantages. Research and develop- ment expenditures are directed at developing new products before competitors do, at improving product quality, or at improving manufacturing processes to reduce costs.

Effective management of the R&D function requires a strategic and operational partnership between R&D and the other vital business functions. A spirit of partnership and mutual trust be- tween general and R&D managers is evident in the best-managed firms today. Managers in these

ChaPter 4 • the internal aSSeSSment 117

firms jointly explore; assess; and decide the what, when, where, why, and how much of R&D. Priorities, costs, benefits, risks, and rewards associated with R&D activities are discussed openly and shared. The overall mission of R&D thus has become broad-based, including supporting existing businesses, helping launch new businesses, developing new products, improving prod- uct quality, improving manufacturing efficiency, and deepening or broadening the company’s technological capabilities.24

The best-managed firms today seek to organize R&D activities in a way that breaks the isolation of R&D from the rest of the company and promotes a spirit of partnership between R&D managers and other managers in the firm. R&D decisions and plans must be integrated and coordinated across departments and divisions by having the departments share experiences and information. The strategic-management process facilitates this cross-functional approach to managing the R&D function.

R&D spending at major corporations declined in 2009 for the first time in 10 years as the worldwide recession hit most firms hard. Roche Holding AG led all firms in R&D spending at $9.12 billion, followed by Microsoft at $9.01 billion and Nokia at $8.24 billion. Other large spenders were Toyota Motor at $7.82 billion and Pfizer at $7.74 billion. Interestingly absent among the top 10 R&D spenders, Apple spent about 3.1 percent of sales on R&D, roughly half the typical level for computer and electronic companies. Booz and Co. partner Barry Jaruzelski remarked that: “Apple succeeds because it has a deep understanding of consumers, is focused on its projects ‘as opposed to trying to spread their bets,’ and attracts superior talent.”25

Internal and External R&D Cost distributions among R&D activities vary by company and industry, but total R&D costs generally do not exceed manufacturing and marketing start-up costs. Four approaches to deter- mining R&D budget allocations commonly are used: (1) financing as many project proposals as possible, (2) using a percentage-of-sales method, (3) budgeting about the same amount that competitors spend for R&D, or (4) deciding how many successful new products are needed and working backward to estimate the required R&D investment.

R&D in organizations can take two basic forms: (1) internal R&D, in which an organization operates its own R&D department, and/or (2) contract R&D, in which a firm hires independent researchers or independent agencies to develop specific products. Many companies use both approaches to develop new products. A widely used approach for obtaining outside R&D as- sistance is to pursue a joint venture with another firm. R&D strengths (capabilities) and weak- nesses (limitations) play a major role in strategy formulation and strategy implementation.

Most firms have no choice but to continually develop new and improved products because of changing consumer needs and tastes, new technologies, shortened product life cycles, and increased domestic and foreign competition. A shortage of ideas for new products, increased global competition, increased market segmentation, strong special-interest groups, and in- creased government regulations are several factors making the successful development of new products more and more difficult, costly, and risky. In the pharmaceutical industry, for example, only one out of every few thousand drugs created in the laboratory ends up on pharmacists’ shelves. Scarpello, Boulton, and Hofer emphasized that different strategies require different R&D capabilities:

The focus of R&D efforts can vary greatly depending on a firm’s competitive strategy. Some corporations attempt to be market leaders and innovators of new products, while others are satisfied to be market followers and developers of currently available products. The basic skills required to support these strategies will vary, depending on whether R&D becomes the driving force behind competitive strategy. In cases where new product intro- duction is the driving force for strategy, R&D activities must be extensive.26

In an effort to share huge R&D costs associated with developing hybrid and electric cars, Germany’s BMW AG and France’s PSA Peugeot Citroen in mid-2011 established a 50–50 joint venture to develop fuel-efficient technologies. The joint venture will develop and produce a full range of hybrid car components, such as battery packs and drivetrains, as well as software for hybrid and electric vehicles. Peugeot has a similar R&D partnership with Mitsubishi Motors

118 Part 2 • StrategY formulation

Corp., while BMW has a similar alliance with rival Daimler AG. Even fierce rivals Renault SA and Nissan Motor Co have a joint partnership to develop small electric cars—so the days of never working with rival firms is over, especially in regard to defraying heavy R&D expenditures.

Research and Development Audit Questions such as the following should be asked in performing an R&D audit:

1. Does the firm have R&D facilities? Are they adequate? 2. If outside R&D firms are used, are they cost-effective? 3. Are the organization’s R&D personnel well qualified? 4. Are R&D resources allocated effectively? 5. Are management information and computer systems adequate? 6. Is communication between R&D and other organizational units effective? 7. Are present products technologically competitive?

Management Information Systems Nordstrom Inc. in recent years has tried to stay ahead of competitors by integrating its online and in-store inventory systems, enabling consumers to see what is available in stores near them. Nordstrom has a five-star rating system online to track what people think and say in social media forums. Nordstrom just acquired HauteLook Inc., a fast-growing, online flash sales company that offered luxury clothes at a discount.

Information ties all business functions together and provides the basis for all managerial decisions. It is the cornerstone of all organizations. Information represents a major source of competitive management advantage or disadvantage. Assessing a firm’s internal strengths and weaknesses in information systems is a critical dimension of performing an internal audit.

A management information system’s purpose is to improve the performance of an enter- prise by improving the quality of managerial decisions. An effective information system thus collects, codes, stores, synthesizes, and presents information in such a manner that it answers important operating and strategic questions. The heart of an information system is a database containing the kinds of records and data important to managers.

A management information system receives raw material from both the external and internal evaluation of an organization. It gathers data about marketing, finance, production, and person- nel matters internally, and social, cultural, demographic, environmental, economic, political, governmental, legal, technological, and competitive factors externally. Data are integrated in ways needed to support managerial decision making.

There is a logical flow of material in a computer information system, whereby data are input to the system and transformed into output. Outputs include computer printouts, written reports, tables, charts, graphs, checks, purchase orders, invoices, inventory records, payroll accounts, and a variety of other documents. Payoffs from alternative strategies can be calculated and esti- mated. Data become information only when they are evaluated, filtered, condensed, analyzed, and organized for a specific purpose, problem, individual, or time.

Even Wal-Mart recognizes the immense importance of information technology. In mid- 2011 Wal-Mart acquired Kosmix, a social media technology provider that has built a platform that enables users to filter and organize content in social networks in order to connect people with information that matters to them, in realtime. Kosmix powers a site called TweetBeat, es- sentially a realtime social media filter for live events. Additionally, the technology is used to power RightHealth, a popular health and medical information site. Kosmix is now operating as part of a newly formed group named WalMartLabs, which is creating information technologies and businesses around social and mobile commerce to support Wal-Mart’s multichannel strat- egy. This acquisition blurs the line between offline and online shopping.

Management Information Systems Audit Questions such as the following should be asked when conducting this audit:

1. Do all managers in the firm use the information system to make decisions? 2. Is there a chief information officer or director of information systems position in the firm?

ChaPter 4 • the internal aSSeSSment 119

3. Are data in the information system updated regularly? 4. Do managers from all functional areas of the firm contribute input to the information

system? 5. Are there effective passwords for entry into the firm’s information system? 6. Are strategists of the firm familiar with the information systems of rival firms? 7. Is the information system user-friendly? 8. Do all users of the information system understand the competitive advantages that informa-

tion can provide firms? 9. Are computer training workshops provided for users of the information system? 10. Is the firm’s information system continually being improved in content and

user-friendliness?

Value Chain Analysis (VCA) According to Porter, the business of a firm can best be described as a value chain, in which total revenues minus total costs of all activities undertaken to develop and market a product or service yields value. All firms in a given industry have a similar value chain, which includes activities such as obtaining raw materials, designing products, building manufacturing facilities, develop- ing cooperative agreements, and providing customer service. A firm will be profitable as long as total revenues exceed the total costs incurred in creating and delivering the product or service. Firms should strive to understand not only their own value chain operations but also their com- petitors’, suppliers’, and distributors’ value chains.

Value chain analysis (VCA) refers to the process whereby a firm determines the costs asso- ciated with organizational activities from purchasing raw materials to manufacturing product(s) to marketing those products. VCA aims to identify where low-cost advantages or disadvantages exist anywhere along the value chain from raw material to customer service activities. VCA can enable a firm to better identify its own strengths and weaknesses, especially as compared to competitors’ value chain analyses and their own data examined over time.

Substantial judgment may be required in performing a VCA because different items along the value chain may impact other items positively or negatively, so there exist complex inter- relationships. For example, exceptional customer service may be especially expensive yet may reduce the costs of returns and increase revenues. Cost and price differences among rival firms can have their origins in activities performed by suppliers, distributors, creditors, or even share- holders. Despite the complexity of VCA, the initial step in implementing this procedure is to divide a firm’s operations into specific activities or business processes. Then the analyst attempts to attach a cost to each discrete activity, and the costs could be in terms of both time and money. Finally, the analyst converts the cost data into information by looking for competitive cost strengths and weaknesses that may yield competitive advantage or disadvantage. Conducting a VCA is supportive of the RBV’s examination of a firm’s assets and capabilities as sources of distinctive competence.

When a major competitor or new market entrant offers products or services at very low prices, this may be because that firm has substantially lower value chain costs or perhaps the rival firm is just waging a desperate attempt to gain sales or market share. Thus value chain analysis can be critically important for a firm in monitoring whether its prices and costs are competitive. An example value chain is illustrated in Figure 4-7. There can be more than a hun- dred particular value-creating activities associated with the business of producing and market- ing a product or service, and each one of the activities can represent a competitive advantage or disadvantage for the firm. The combined costs of all the various activities in a company’s value chain define the firm’s cost of doing business. Firms should determine where cost advantages and disadvantages in their value chain occur relative to the value chain of rival firms.

Value chains differ immensely across industries and firms. Whereas a paper products com- pany, such as Stone Container, would include on its value chain timber farming, logging, pulp mills, and papermaking, a computer company such as Hewlett-Packard would include program- ming, peripherals, software, hardware, and laptops. A motel would include food, housekeeping, check-in and check-out operations, website, reservations system, and so on. However, all firms should use value chain analysis to develop and nurture a core competence and convert this

120 Part 2 • StrategY formulation

Figure 4-7

An example Value Chain for a Typical Manufacturing Firm Supplier Costs

Production Costs

Distribution Costs

Sales and Marketing Costs

Customer Service Costs

Management Costs

Raw materials

Fuel

Energy

Transportation

Truck drivers

Truck maintenance

Component parts

Inspection

Storing

Warehouse

Inventory system

Receiving

Plant layout

Maintenance

Plant location

Computer

R&D

Cost accounting

Loading

Shipping

Budgeting

Personnel

Internet

Trucking

Railroads

Fuel

Maintenance

Salespersons

Website

Internet

Publicity

Promotion

Advertising

Transportation

Food and lodging

Postage

Phone

Internet

Warranty

Human resources

Administration

Employee benefits

Labor relations

Managers

Employees

Finance and legal

ChaPter 4 • the internal aSSeSSment 121

competence into a distinctive competence. A core competence is a value chain activity that a firm performs especially well. When a core competence evolves into a major competitive advan- tage, then it is called a distinctive competence. Figure 4-8 illustrates this process.

More and more companies are using VCA to gain and sustain competitive advantage by being especially efficient and effective along various parts of the value chain. For example, Wal- Mart has built powerful value advantages by focusing on exceptionally tight inventory control, volume purchasing of products, and offering exemplary customer service. Computer companies in contrast compete aggressively along the distribution end of the value chain. Of course, price competitiveness is a key component of effectiveness among both mass retailers and computer firms.

Benchmarking Benchmarking is an analytical tool used to determine whether a firm’s value chain activities are competitive compared to rivals and thus conducive to winning in the marketplace. Benchmarking entails measuring costs of value chain activities across an industry to determine “best practices” among competing firms for the purpose of duplicating or improving upon those best practices. Benchmarking enables a firm to take action to improve its competitiveness by identifying (and improving upon) value chain activities where rival firms have comparative advantages in cost, service, reputation, or operation.

A comprehensive survey on benchmarking was recently commissioned by the Global Benchmarking Network, a network of benchmarking centers representing 22 countries. Over 450 organizations responded from over 40 countries. The results showed that:

1. Mission and Vision Statements along with Customer (Client) Surveys are the most used (77 percent of organizations) of 20 improvement tools, followed by SWOT analysis (72 percent), and Informal Benchmarking (68 percent). Performance Benchmarking was used by 49 percent and Best Practice Benchmarking by 39 percent.

2. The tools that are likely to increase in popularity the most over the next three years are Performance Benchmarking, Informal Benchmarking, SWOT, and Best Practice Benchmarking. Over 60 percent of organizations not currently using these tools indicated they are likely to use them in the next three years.27

The hardest part of benchmarking can be gaining access to other firms’ value chain activi- ties with associated costs. Typical sources of benchmarking information, however, include pub- lished reports, trade publications, suppliers, distributors, customers, partners, creditors, share- holders, lobbyists, and willing rival firms. Some rival firms share benchmarking data. However, the International Benchmarking Clearinghouse provides guidelines to help ensure that restraint of trade, price fixing, bid rigging, bribery, and other improper business conduct do not arise be- tween participating firms.

Due to the popularity of benchmarking today, numerous consulting firms such as Accenture, AT Kearney, Best Practices Benchmarking & Consulting, as well as the Strategic Planning Institute’s Council on Benchmarking, gather benchmarking data, conduct benchmarking studies, and distribute benchmark information without identifying the sources.

Figure 4-8

Transforming Value Chain Activities into Sustained Competitive Advantage

Core Competencies Arise in Some

Activities

Some Distinctive Competencies Yield

Sustained Competitive Advantages

Some Core Competencies Evolve into Distinctive

Competencies

Value Chain Activities Are Identified and

Assessed

122 Part 2 • StrategY formulation

The Internal Factor Evaluation (IFE) Matrix A summary step in conducting an internal strategic-management audit is to construct an Internal Factor Evaluation (IFE) Matrix. This strategy-formulation tool summarizes and evaluates the major strengths and weaknesses in the functional areas of a business, and it also provides a basis for identifying and evaluating relationships among those areas. Intuitive judgments are required in developing an IFE Matrix, so the appearance of a scientific approach should not be interpreted to mean this is an all-powerful technique. A thorough understanding of the factors included is more important than the actual numbers. Similar to the EFE Matrix and Competitive Profile Matrix described in Chapter 3, an IFE Matrix can be developed in five steps:

1. List key internal factors as identified in the internal-audit process. Use a total of from 10 to 20 internal factors, including both strengths and weaknesses. List strengths first and then weaknesses. Be as specific as possible, using percentages, ratios, and comparative num- bers. Recall that Edward Deming said, “In God we trust. Everyone else bring data.”

2. Assign a weight that ranges from 0.0 (not important) to 1.0 (all-important) to each fac- tor. The weight assigned to a given factor indicates the relative importance of the factor to being successful in the firm’s industry. Regardless of whether a key factor is an in- ternal strength or weakness, factors considered to have the greatest effect on organiza- tional performance should be assigned the highest weights. The sum of all weights must equal 1.0.

3. Assign a 1-to-4 rating to each factor to indicate whether that factor represents a major weakness (rating = 1), a minor weakness (rating = 2) a minor strength (rating = 3) or a major strength (rating = 4). Note that strengths must receive a 3 or 4 rating and weaknesses must receive a 1 or 2 rating. Ratings are thus company-based, whereas the weights in step 2 are industry-based.

4. Multiply each factor’s weight by its rating to determine a weighted score for each variable.

5. Sum the weighted scores for each variable to determine the total weighted score for the organization.

Regardless of how many factors are included in an IFE Matrix, the total weighted score can range from a low of 1.0 to a high of 4.0, with the average score being 2.5. Total weighted scores well below 2.5 characterize organizations that are weak internally, whereas scores significantly above 2.5 indicate a strong internal position. Like the EFE Matrix, an IFE Matrix should include from 10 to 20 key factors. The number of factors has no effect upon the range of total weighted scores because the weights always sum to 1.0.

When a key internal factor is both a strength and a weakness, the factor should be included twice in the IFE Matrix, and a weight and rating should be assigned to each statement. For ex- ample, the Playboy logo both helps and hurts Playboy Enterprises; the logo attracts customers to Playboy magazine, but it keeps the Playboy cable channel out of many markets. Be as quantita- tive as possible when stating factors. Use monetary amounts, percentages, numbers, and ratios to the extent possible.

An example IFE Matrix is provided in Table 4-9 for a retail computer store. Note that the two most important factors to be successful in the retail computer store business are “revenues from repair/service in the store” and “location of the store.” Also note that the store is doing best on “average customer purchase amount” and “in-store technical support.” The store is hav- ing major problems with its carpet, bathroom, paint, and checkout procedures. Note also that the matrix contains substantial quantitative data rather than vague statements; this is excellent. Overall, this store receives a 2.5 total weighted score, which on a 1-to-4 scale is exactly average/ halfway, indicating there is definitely room for improvement in store operations, strategies, poli- cies, and procedures.

The IFE Matrix provides important information for strategy formulation. For example, this retail computer store might want to hire another checkout person and repair its carpet, paint, and bathroom problems. Also, the store may want to increase advertising for its repair/services, be- cause that is a really important (weight 0.15) factor to being successful in this business.

Another example IFE Matrix is provided in Table 4-10 for UPS, Inc., the company well known for its brown trucks. Headquartered in Sandy Springs, Georgia, UPS delivers roughly 15 million

ChaPter 4 • the internal aSSeSSment 123

TAble 4-9 A Sample Internal Factor Evaluation Matrix for a Retail Computer Store

Key Internal Factors Weight Rating Weighted Score

Strengths

1. Inventory turnover increased from 5.8 to 6.7 0.05 3 0.15

2. Average customer purchase increased from $97 to $128 0.07 4 0.28

3. Employee morale is excellent 0.10 3 0.30

4. In-store promotions resulted in 20 percent increase in sales 0.05 3 0.15

5. Newspaper advertising expenditures increased 10 percent 0.02 3 0.06

6. Revenues from repair/service segment of store up 16 percent 0.15 3 0.45

7. In-store technical support personnel have MIS college degrees 0.05 4 0.20

8. Store’s debt-to-total assets ratio declined to 34 percent 0.03 3 0.09

9. Revenues per employee up 19 percent 0.02 3 0.06

Weaknesses

1. Revenues from software segment of store down 12 percent 0.10 2 0.20

2. Location of store negatively impacted by new Highway 34 0.15 2 0.30

3. Carpet and paint in store somewhat in disrepair 0.02 1 0.02

4. Bathroom in store needs refurbishing 0.02 1 0.02

5. Revenues from businesses down 8 percent 0.04 1 0.04

6. Store has no website 0.05 2 0.10

7. Supplier on-time delivery increased to 2.4 days 0.03 1 0.03

8. Often customers have to wait to check out 0.05 1 0.05

Total 1.00 2.50

packages daily to 220 countries. Note in Table 4-10 that UPS’s new Worldport expansion is con- sidered the most important factor to success in the industry as indicated by a weight of 0.09. Also note the use of many $’s, #’s, and %’s in the factor statements. The total weighted score of 2.84 indicates that UPS is doing pretty well, but there definitely is room for improvement.

In multidivisional firms, each autonomous division or strategic business unit should con- struct an IFE Matrix. Divisional matrices then can be integrated to develop an overall corporate IFE Matrix.

Be as divisional as possible when developing a corporate IFE Matrix. Also, in developing an IFE Matrix, do not allow more than 30 percent of the key factors to be financial ratios, because financial ratios are generally the result of many other factors so it is difficult to know what par- ticular strategies should be considered based on financial ratios. For example, a firm would have no insight on whether to sell in Brazil or South Africa to take advantage of a high ROI ratio.

Special Note to Students It can be debated whether external or internal factors are more important in strategic planning, but there is no debate regarding the fact that gaining and sustaining competitive advantage is the essence or purpose of strategic planning. In the internal portion of your case analysis, emphasize how and why your internal strengths and weaknesses can be leveraged to both gain competitive advantage and overcome competitive disadvantage, in light of the direction you are taking the firm. Maintain your project’s upbeat, insightful, and forward-thinking demeanor during the in- ternal assessment, rather than being mundane, descriptive, and vague. Focus on how your firm’s resources, capabilities, structure, and strategies, with your recommended improvements, can lead the firm to prosperity. Although the numbers absolutely must be there, must be accurate, and must be reasonable, do not bore a live audience or class with overreliance on numbers. Periodically throughout your presentation or written analysis, refer to your recommenda- tions, explaining how your plan of action will improve the firm’s weaknesses and capitalize on strengths in light of anticipated competitor countermoves. Keep your audience’s attention, inter- est, and suspense, rather than “reading” to them or “defining” ratios for them.

124 Part 2 • StrategY formulation

TAble 4-10 An Actual Internal Factor Evaluation (IFE) Matrix for UPS, Inc.

Key Internal Factors

Strengths Weight Rating Wt. Score

1. Completed first phase of Worldport expansion, increasing sorting capacity 15 percent growing to 37 percent

0.09 4 0.36

2. First major airline to successfully operate a 100 percent Stage III fleet three years in advance of Federal regulations

0.07 4 0.28

3. Five out of every six UPS drivers come from part-time ranks (pro- motion within)

0.07 3 0.21

4. Over 4,000 UPS drivers have driven for 25 years or more without an avoidable accident

0.06 3 0.18

5. Dividends of $0.47 per share paid and increasing 0.06 4 0.24

6. Average daily volume for Next-Day Air and Deferred Products in- creased 2.8 percent and 4.3 percent respectively

0.06 3 0.18

7. Have yielded 1.71 percent cost and production efficiencies, improving operating margin

0.06 4 0.24

8. Owns 80 percent of joint venture headquartered in Dubai with 20 percent option to purchase

0.08 3 0.24

9. Streamlining Domestic Package segment, reducing U.S. regions from five to three and U.S. districts from 46 to 20

0.07 3 0.21

10. Purchased 130 hybrid vehicles, adding to UPS alternative fuel vehicle (AFV) fleet

0.07 4 0.28

Weakness

11. Approximately 254,000 UPS employees are members of a union 0.03 1 0.03

12. Approximately 2,800 UPS pilots 0.03 1 0.03

13. Approximately 3,400 UPS ground mechanics 0.03 1 0.03

14. Inability to identify sufficient operating cost savings to result in at least 300 furloughs for airline pilots

0.04 1 0.04

15. Top executives diversity percentage is low (25 percent) 0.03 2 0.06

16. Over 4,000 UPS drivers have driven for more than 25 years and are now eligible for retirement

0.04 1 0.04

17. Top executives’ tenure in current position five years or less 0.03 2 0.06

18. 80 percent of all UPS U.S. small package delivery services guaranteed

0.02 2 0.04

19. With ~408,000 employees, expenses relating to health and pension benefits are high

0.03 1 0.03

20. 41.7 percent of top UPS executives are cross-trained 0.03 2 0.06

TOTALS 1.00 2.84

Conclusion Management, marketing, finance/accounting, production/operations, research and development, and management information systems represent the core operations of most businesses. A strate- gic-management audit of a firm’s internal operations is vital to organizational health. Many com- panies still prefer to be judged solely on their bottom-line performance. However, an increasing number of successful organizations are using the internal audit to gain competitive advantages over rival firms.

Systematic methodologies for performing strength-weakness assessments are not well developed in the strategic-management literature, but it is clear that strategists must identify and evaluate internal strengths and weaknesses in order to effectively formulate and choose among

ChaPter 4 • the internal aSSeSSment 125

alternative strategies. The EFE Matrix, Competitive Profile Matrix, IFE Matrix, and clear state- ments of vision and mission provide the basic information needed to successfully formulate competitive strategies. The process of performing an internal audit represents an opportunity for managers and employees throughout the organization to participate in determining the future of the firm. Involvement in the process can energize and mobilize managers and employees.

Activity Ratios (p. 110) Benchmarking (p. 121) Breakeven (BE) Point (p. 113) Capital Budgeting (p. 109) Communication (p. 96) Controlling (p. 103) Core Competence (p. 121) Cost/Benefit Analysis (p. 107) Cultural Products (p. 98) Customer Analysis (p. 104) Data (p. 118) Distinctive Competencies (p. 95) Distribution (p. 107) Dividend Decisions (p. 109) Empirical Indicators (p. 98) Financial Ratio Analysis (p. 97) Fixed Costs (FC) (p. 113) Financing Decision (p. 109) Functions of Finance/Accounting (p. 108) Functions of Management (p. 100) Functions of Marketing (p. 104) Growth Ratios (p. 112) Human Resource Management (p. 103) Information (p. 118) Internal Audit (p. 96)

Internal Factor Evaluation (IFE) Matrix (p. 122)

Investment Decision (p. 109) Leverage Ratios (p. 110) Liquidity Ratios (p. 110) Management Information

System (p. 118) Marketing Research (p. 107) Motivating (p. 102) Organizational Culture (p. 98) Organizing (p. 102) Personnel Management (p. 103) Planning (p. 100) Pricing (p. 106) Product and Service Planning (p. 106) Production/Operations Function (p. 115) Profitability Ratios (p. 110) Research and Development (R&D) (p. 116) Resource-Based View (RBV) (p. 97) Selling (p. 104) Staffing (p. 103) Synergy (p. 101) Test Marketing (p. 106) Value Chain Analysis (VCA) (p. 119) Variable Costs (VC) (p. 114)

Key Terms and Concepts

Issues for review and Discussion 1. Explain Cost/Benefit analysis. 2. Explain why “communication” may be the most impor-

tant word in management. What do you think is the most important word in marketing? In finance? In accounting?

3. Discuss how the nature of advertisements have changed in the last few years.

4. Rate the seven websites in Table 4-5 from best to worst for finding comparative financial ratio information about a company.

5. Explain why it is best not to have more than 30 percent of the factors in an IFE Matrix be financial ratios.

6. List three firms you are familiar with and give a distinctive competence for each firm.

7. Give some key reasons why prioritizing strengths and weaknesses is essential.

8. Why may it be easier in performing an internal assess- ment to develop a list of 80 strengths/weaknesses than to decide on the top 20 to use in formulating strategies?

9. Think of an organization you are very familiar with. List three resources of that entity that are empirical indicators.

10. Think of an organization you are very familiar with. Rate that entity’s organizational culture on the 15 example di- mensions listed in Table 4-2.

11. If you and a partner were going to visit a foreign country where you have never been before, how much planning would you do ahead of time? What benefit would you expect that planning to provide?

12. Even though planning is considered the foundation of management, why do you think it is commonly the task that managers neglect most?

126 Part 2 • StrategY formulation

13. Are you more organized than the person sitting beside you in class? If not, what problems could that present in terms of your performance and rank in the class? How analo- gous is this situation to rival companies?

14. List the three ways that financial ratios should be compared/ utilized. Which of the three comparisons do you feel is most important? Why?

15. Illustrate how value chain activities can become core com- petencies and eventually distinctive competencies. Give an example for an organization you are familiar with.

16. In an IFEM, would it be advantageous to list your strengths, and then your weaknesses, in order of increas- ing “weight”? Why?

17. In an IFEM, a critic may say there is no significant dif- ference between a “weight” of 0.08 and 0.06. How would you respond?

18. List six desirable characteristics of advertisements in re- cessionary times.

19. Why are so many firms cutting their dividend payout amounts?

20. When someone says dividends paid are double taxed, what are they referring to?

21. Draw a breakeven chart to illustrate a drop in labor costs. 22. Draw a breakeven chart to illustrate an increase in adver-

tising expenses. 23. Draw a breakeven chart to illustrate closing stores. 24. Draw a breakeven chart to illustrate lowering price. 25. Explain why prioritizing the relative importance of

strengths and weaknesses in an IFE Matrix is an important strategic-management activity.

26. How can delegation of authority contribute to effective strategic management?

27. Diagram a formal organizational chart that reflects the following positions: a president, 2 executive officers, 4 middle managers, and 18 lower-level managers. Now, dia- gram three overlapping and hypothetical informal group structures. How can this information be helpful to a strate- gist in formulating and implementing strategy?

28. Which of the three basic functions of finance/accounting do you feel is most important in a small electronics manu- facturing concern? Justify your position.

29. Do you think aggregate R&D expenditures for U.S. firms will increase or decrease next year? Why?

30. Explain how you would motivate managers and employ- ees to implement a major new strategy.

31. Why do you think production/operations managers often are not directly involved in strategy-formulation ac- tivities? Why can this be a major organizational weakness?

32. Give two examples of staffing strengths and two examples of staffing weaknesses of an organization with which you are familiar.

33. Would you ever pay out dividends when your firm’s an- nual net profit is negative? Why? What effect could this have on a firm’s strategies?

34. If a firm has zero debt in its capital structure, is that al- ways an organizational strength? Why or why not?

35. Describe the production/operations system in a police department.

36. After conducting an internal audit, a firm discovers a total of 100 strengths and 100 weaknesses. What procedures then could be used to determine the most important of these? Why is it important to reduce the total number of key factors?

37. Why do you believe cultural products affect all the func- tions of business?

38. Do you think cultural products affect strategy formulation, implementation, or evaluation the most? Why?

39. Identify cultural products at your college or university. Do these products, viewed collectively or separately, repre- sent a strength or weakness for the organization?

40. Explain the difference between data and information in terms of each being useful to strategists.

41. What are the most important characteristics of an effective management information system?

42. Do you agree or disagree with the RBV theorists that internal resources are more important for a firm than external factors in achieving and sustaining competitive advantage? Explain your and their position.

43. Define and discuss “empirical indicators.” 44. Define and discuss the “spam” problem in the United

States. 45. Define and explain value chain analysis (VCA). 46. List five financial ratios that may be used by your univer-

sity to monitor operations. 47. Explain benchmarking.

notes 1. Reprinted by permission of the publisher from

“Integrating Strength–Weakness Analysis into Strategic Planning,” by William King, Journal of Business Research 2, no. 4: 481. Copyright 1983 by Elsevier Science Publishing Co., Inc.

2. Igor Ansoff, “Strategic Management of Technology” Journal of Business Strategy 7, no. 3 (Winter 1987): 38.

3. Claude George Jr., The History of Management Thought, 2nd ed. (Upper Saddle River, NJ: Prentice-Hall, 1972), 174.

4. Robert Grant, “The Resource-Based Theory of Competitive Advantage: Implications for Strategy

Formulation,” California Management Review, Spring 1991, 116.

5. J. B. Barney, “Firm Resources and Sustained Competitive Advantage,” Journal of Management 17 (1991): 99–120; J. B. Barney, “The Resource-Based Theory of the Firm,” Organizational Science 7 (1996): 469; J. B. Barney, “Is the Resource-Based ‘View’ a Useful Perspective for Strategic Management Research? Yes.” Academy of Management Review 26, no. 1 (2001): 41–56.

6. Edgar Schein, Organizational Culture and Leadership (San Francisco: Jossey-Bass, 1985), 9.

ChaPter 4 • the internal aSSeSSment 127

7. John Lorsch, “Managing Culture: The Invisible Barrier to Strategic Change,” California Management Review 28, no. 2 (1986): 95–109.

8. Y. Allarie and M. Firsirotu, “How to Implement Radical Strategies in Large Organizations,” Sloan Management Review (Spring 1985): 19.

9. www.mindtools.com/plfailpl.html 10. Adam Smith, The Wealth of Nations (New York: Modern

Library, 1937), 3–4. 11. Richard Daft, Management, 3rd ed. (Orlando, FL: Dryden

Press, 1993), 512. 12. Shelley Kirkpatrick and Edwin Locke, “Leadership: Do

Traits Matter?” Academy of Management Executive 5, no. 2 (May 1991): 48.

13. Peter Drucker, Management Tasks, Responsibilities, and Practice (New York: Harper & Row, 1973), 463.

14. Brian Dumaine, “What the Leaders of Tomorrow See,” Fortune, July 3, 1989, 51.

15. J. Evans and B. Bergman, Marketing (New York: Macmillan, 1982), 17.

16. Brad Stone, “See Your Friends,” Bloomberg Businessweek (September 27–October 3, 2010): 65–69.

17. Quoted in Robert Waterman, Jr., “The Renewal Factor,” BusinessWeek, September 14, 1987, 108.

18. http://en.wikipedia.org/wiki/Cost-benefit_analysis 19. J. Van Horne, Financial Management and Policy (Upper

Saddle River, N.J.: Prentice-Hall, 1974), 10. 20. Bob Sechler and Paul Glader, “GE’s Dividend Mends

Further,” Wall Street Journal, December 11–12, 2010, B4.

21. http://en.wikipedia.org/wiki/Break-even_(economics) 22. Kevin Klowden, “The Quiet Revolution in Transportation,”

Wall Street Journal, April 24, 2007, A14. 23. Martin Peers, “RIM: Less Research = More Motion,” Wall

Street Journal, March 30, 2011, C16. 24. Philip Rousebl, Kamal Saad, and Tamara Erickson, “The

Evolution of Third Generation R&D,” Planning Review 19, no. 2 (March–April 1991): 18–26.

25. James Hagerty, “R&D Spending Drops at Major Firms,” Wall Street Journal, November 3, 2010, B4.

26. Vida Scarpello, William Boulton, and Charles Hofer, “Reintegrating R&D into Business Strategy,” Journal of Business Strategy 6, no. 4 (Spring 1986): 50–51.

27. http://en.wikipedia.org/wiki/Benchmarking

Current readings Bloom, Nick, Tobias Kretschmer, and John Van Reenen. “Are

Family-Friendly Workplace Practices a Valuable Firm Resource?” Strategic Management Journal 32, no. 4 (April 2011): 343–367.

Boyd, Brian K., Donald D. Bergh, and David J. Ketchen, Jr. “Reconsidering the Reputation-Performance Relationship: A Resource-Based View.” Journal of Management 36, no. 3 (May 2010): 588.

Connelly, Brian L., Laszlo Tihanyi, S. Trevis Certo, and Michael A. Hitt. “Marching to the Beat of Different Drummers: The Influence of Institutional Owners on Competitive Actions.” The Academy of Management Journal 53, no. 4 (August 2010): 723–768.

Drayton, Bill, and Valeria Budinich. “A New Alliance for Global Change.” Harvard Business Review, September 2010, 56–65.

Hoffman, Donna L., and Marek Fodor. “Can You Measure the ROI of Your Social Media Marketing?” MIT Sloan Management Review 52, no. 1 (Fall 2010): 41–48.

Hopkins, Michael S. “Collaborate or Race? How to Design the Value Chain You Need.” MIT Sloan Management Review 51, no. 2 (Winter 2010): 22–24.

Hopkins, Michael S. “The 4 Ways IT Is Revolutionizing Innovation.” MIT Sloan Management Review 51, no. 3 (Spring 2010): 51–56.

Kraaijenbrink, Jeroen, J. C. Spender, and Aard J. Groen. “The Resource-Based View: A Review and Assessment of Its

Critiques.” Journal of Management 36, no. 1 (January 2010): 349–366.

Kunc, Martin H., and John D. W. Morecroft. “Managerial Decision Making and Firm Performance Under a Resource-Based Paradigm.” Strategic Management Journal 31, no. 11 (November 2010): 1164–1182.

Lange, Donald, Peggy M. Lee, and Ye Dai. “Organizational Reputation: A Review.” Journal of Management 37, no. 1 (January 2011): 153–184.

Raes, Anneloes M. L., Marielle G. Heijltjes, Ursula Glunk, and Robert A. Roe. “The Interface of the Top Management Team and Middle Managers: A Process Model.” The Academy of Management Review 36, no. 1 (January 2011): 102–126.

Sirmon, David G., Michael A. Hitt, Jean-Luc Arregle, and Joanna Tochman Campbell. “The Dynamic Interplay of Capability Strengths and Weaknesses: Investigating the Bases of Temporary Competitive Advantage.” Strategic Management Journal 31, no. 13 (December 2010): 1386– 1409.

Vermeulen, Freek, Phanish Puranam, and Ranjay Gulati. “Change for Change’s Sake.” Harvard Business Review (June 2010): 70–78.

Zhu, Yunxia, and Jianmin Feng. “Does the Relationship Between Job Satisfaction and Job Performance Depend on Culture?” The Academy of Management Perspectives 24, no. 1 (February 2010): 86–88.

128 Part 2 • StrategY formulation

Assurance of Learning Exercise 4A

Apply Breakeven Analysis Purpose Breakeven analysis is one of the simplest yet underused analytical tools in management. It helps to provide a dynamic view of the relationships among sales, costs, and profits. A better understanding of breakeven analysis can enable an organization to formulate and implement strategies more effectively. This exercise will show you how to calculate breakeven points mathematically.

The formula for calculating breakeven point is BE Quantity = TFC/P–VC. In other words, the Quantity (Q) or units of product that need to be sold for a firm to break even is Total Fixed Costs divided by (Price per Unit minus Variable Costs per Unit).

Instructions

Step 1 Lets say an airplane company has Fixed Costs of $100 million and Variable Costs per Unit of $2 million. Planes sell for $3 million each. What is the company’s breakeven point in terms of the number of planes that need to be sold just to break even?

Step 2 If the airplane company wants to make a profit of $99 million annually, how many planes will it have to sell?

Step 3 If the company can sell 200 airplanes in a year, how much annual profit will the firm make?

Assurance of Learning Exercise 4B

Develop Divisional Disney IFEMs Purpose Walt Disney has five major divisions as follows: 1) Media Networks, 2) Parks & Resorts, 3) Studio Entertainment, 4) Consumer Products, and 5) Interactive media. The company faces fierce but differ- ent competitors in each segment. The internal strengths and weaknesses that Disney faces are different in each segment, so each division prepares its own list of critical internal success factors. This exercise gives you practice developing key internal factors for different divisions of a company, so that a firm’s overall strategic plan can be developed.

Instructions

Step 1 Go to http://corporate.disney.go.com/ and review Disney’s five major divisions. Step 2 Review Disney’s most recent Annual Report at http://corporate.disney.go.com/investors/

annual_reports.html. Determine what you believe are the four major weaknesses and the four major strengths critical to strategic planning within Disney’s five business segments.

Step 3 Armed with the information from Step 2, develop divisional IFEMs for Disney. Step 4 Prioritize the 20 weaknesses and the 20 strengths developed in the prior step so Disney’s top

executives can develop an IFEM for the overall company.

Assurance of Learning Exercise 4C

Perform a Financial Ratio Analysis for Walt Disney Purpose Financial ratio analysis is one of the best techniques for identifying and evaluating internal strengths and weaknesses. Potential investors and current shareholders look closely at firms’ financial ratios,

AssurAnce of LeArning exercises

ChaPter 4 • the internal aSSeSSment 129

making detailed comparisons to industry averages and to previous periods of time. Financial ratio analyses provide vital input information for developing an IFE Matrix.

Instructions

Step 1 On a separate sheet of paper, number from 1 to 20. Referring to Disney’s income statement and balance sheet (pp. 26–27), calculate 20 financial ratios for 2010 for the company. Use Table 4-6 as a reference.

Step 2 In a second column, indicate whether you consider each ratio to be a strength, a weakness, or a neutral factor for Walt Disney.

Step 3 Go to the websites in Table 4-5 that calculate Disney’s financial ratios, without your having to pay a subscription (fee) for the service. Make a copy of the ratio information provided and record the source. Report this research to your classmates and your professor.

Assurance of Learning Exercise 4D

Construct an IFE Matrix for Walt Disney Purpose This exercise will give you experience in developing an IFE Matrix. Identifying and prioritizing factors to include in an IFE Matrix fosters communication among functional and divisional manag- ers. Preparing an IFE Matrix allows human resource, marketing, production/operations, finance/ accounting, R&D, and management information systems managers to articulate their concerns and thoughts regarding the business condition of the firm. This results in an improved collective under- standing of the business.

Instructions

Step 1 Join with two other individuals to form a three-person team. Develop a team IFE Matrix for Walt Disney. Use information from Exercise 1B.

Step 2 Compare your team’s IFE Matrix to other teams’ IFE Matrices. Discuss any major differences.

Step 3 What strategies do you think would allow Disney to capitalize on its major strengths? What strategies would allow Disney to improve upon its major weaknesses?

Assurance of Learning Exercise 4E

Construct an IFE Matrix for My University Purpose This exercise gives you the opportunity to evaluate your university’s major strengths and weaknesses. As will become clearer in the next chapter, an organization’s strategies are largely based upon striving to take advantage of strengths and improving upon weaknesses.

Instructions

Step 1 Join with two other individuals to form a three-person team. Develop a team IFE Matrix for your university. You may use the strengths/weaknesses determined in Assurance of Learning Exercise 1D.

Step 2 Go to the board and diagram your team’s IFE Matrix. Step 3 Compare your team’s IFE Matrix to other teams’ IFE Matrices. Discuss any major

differences. Step 4 What strategies do you think would allow your university to capitalize on its major strengths?

What strategies would allow your university to improve upon its major weaknesses?

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“Notable Quotes” “Alice said, ‘Would you please tell me which way to go from here?’ The cat said, ‘That de- pends on where you want to get to.’” —Lewis Carroll

“Tomorrow always arrives. It is always differ- ent. And even the mightiest company is in trouble if it has not worked on the future. Being surprised by what happens is a risk that even the largest and richest company cannot afford, and even the smallest business need not run.” —Peter Drucker

“Planning. Doing things today to make us bet- ter tomorrow. Because the future belongs to those who make the hard decisions today.” —Eaton Corporation

“One big problem with American business is that when it gets into trouble, it redoubles

its effort. It’s like digging for gold. If you dig down twenty feet and haven’t found it, one of the strategies you could use is to dig twice as deep. But if the gold is twenty feet to the side, you could dig a long time and not find it.” —Edward De Bono

“Even if you’re on the right track, you’ll get run over if you just sit there.” —Will Rogers

“Strategies for taking the hill won’t necessarily hold it.” —Amar Bhide

“The early bird may get the worm, but the sec- ond mouse gets the cheese.” —Unknown

Chapter ObjeCtives After studying this chapter, you should be able to do the following:

1. Discuss the value of establishing long-term objectives.

2. Identify 16 types of business strategies.

3. Identify numerous examples of organizations pursuing different types of strategies.

4. Discuss guidelines when particular strategies are most appropriate to pursue.

5. Discuss Porter’s five generic strategies.

6. Describe strategic management in nonprofit, governmental, and small organizations.

7. Discuss joint ventures as a way to enter the Russian market.

8. Discuss the Balanced Scorecard.

9. Compare and contrast financial with strategic objectives.

10. Discuss the levels of strategies in large versus small firms.

11. Explain the First Mover Advantages concept.

12. Discuss recent trends in outsourcing.

13. Discuss strategies for competing in turbulent, high-velocity markets.

assurance of Learning exercise 5a Develop Hypothetical Disney Strategies

assurance of Learning exercise 5b Evaluate Disney Divisions in Terms of Porter Strategies

assurance of Learning exercise 5C What Strategies Should Disney Pursue in 2013?

assurance of Learning exercise 5D Examine Strategy Articles

assurance of Learning exercise 5e Classify Some Year 2011 Strategies

assurance of Learning exercise 5F How Risky Are Various Alternative Strategies?

assurance of Learning exercise 5G Develop Alternative Strategies for My University

assurance of Learning exercise 5h Lessons in Doing Business Globally

assuranCe OF LearninG exerCises

Strategies in Action 5

132 Part 2 • Strategy formulation

Hundreds of companies today, including Sears, IBM, Searle, and Hewlett-Packard, have embraced strategic planning fully in their quest for higher revenues and profits. Kent Nelson, former chair of UPS, explains why his company has created a new strategic-planning department: “Because we’re making bigger bets on investments in technology, we can’t afford to spend a whole lot of money in one direction and then find out five years later it was the wrong direction.”1

This chapter brings strategic management to life with many contemporary examples. Sixteen types of strategies are defined and exemplified, including Michael Porter’s generic strategies: cost leadership, differentiation, and focus. Guidelines are presented for determining when it is most appropriate to pursue different types of strategies. An overview of strategic management in nonprofit organizations, governmental agencies, and small firms is provided. ExxonMobil is an example company that for many years has exemplified excellent strategic management.

Long-Term Objectives Long-term objectives represent the results expected from pursuing certain strategies. Strategies represent the actions to be taken to accomplish long-term objectives. The time frame for objectives and strategies should be consistent, usually from two to five years.

Excellent Strategic Management Showcased

ExxonMobil Corporation

Founded in 1870 and headquartered in Irving, Texas, ExxonMobil en- gages in the exploration, production, transportation, and sale of crude oil, natural gas, olefins, aromatics, polyethylene, polypropylene plas- tics, and electric power generation. ExxonMobil is the largest and most profitable publicly traded oil company in the world. Exxon supplies fuel to 28,000 gas stations in 100 countries, is substantially larger than Royal Dutch Shell or BP, has 83,600 employees, and is led by CEO and Chairman of the Board Rex Tillerson. Exxon’s 2010 profits increased an incredible 59.7 percent to $30.5 billion, while the company’s revenues increased 23 percent to $383 billion.

Exxon earned $10.65 billion in profits in the first quarter of 2011. That compares with $6.3 billion, or 1.33 per share. Revenue increased 26 percent to $114 billion. The quarter was Exxon’s best since earning a record-setting $14.83 billion in 2008’s third quarter. It comes at a time when some drivers are paying $4 or more for gas. Earnings grew across the company’s business segments as profits from its exploration and production business gained 49 percent to $8.7 billion, while the company’s downstream business, which includes refineries, posted a huge 30-fold jump to more than $1.1 billion.

As escalating political unrest in the Middle East threatens to disrupt fuel supplies, oil and gas prices could rise further. ExxonMobil produces more oil when prices are high. Protests that started in Tunisia and Egypt have spread to Syria, Yemen, Bahrain, Iran, and Jordan. Protesters in Libya ousted Moammar Gaddafi, the longest-ruling Arab leader, following the ouster of Hosni Mubarak in Egypt.

Exxon’s 2010 EPS increased 55 percent to $6.22, while the compa- ny’s capital and exploration expenditures were $32.2 billion, up 19 per- cent. Exxon is a gigantic, money-making, money-investing, well oiled, strategic management machine that has been incredibly successful

for more than 14 decades.  And, Exxon pays about 35 percent of its net income in federal taxes every year, rather than being intent on avoiding taxes.

A key ingredi- ent of ExxonMobil’s strategic plan is the company’s bet that natural gas will over- take coal as the world’s second-largest source of energy by 2030. That is why Exxon recently purchased XTO Energy for $25 billion. XTO has a patented procedure to extract natural gas from shale in an economical manner. Exxon also recently acquired the shale producer Ellora Inc. for $695 million and purchased the natural-gas shale assets of Petrohawk Energy Corp. for $575 million. Exxon predicts that the world will con- sume about 35 percent more energy in 2030 than today, and that natural gas will quench 26 percent of the world’s demand for energy, up from 21 percent today.

Ukraine’s state-run energy firm Naftogaz and ExxonMobil recently signed a memorandum of cooperation to explore for shale gas de- posits in Ukraine. That country imports 60 percent of its energy from Russia at arguably too-high import prices. ExxonMobil is also helping Ukraine look for methane gas deposits in coalmines.

Source: Company documents. Also, Angel Gonzalez, “Exxon Predicts Gas Use Will Surpass Coal’s,” Wall Street Journal, January 27, 2011, B3.

ChaPter 5 • StrategieS in aCtion 133

The Nature of Long-Term Objectives Objectives should be quantitative, measurable, realistic, understandable, challenging, hierarchi- cal, obtainable, and congruent among organizational units. Each objective should also be associ- ated with a timeline. Objectives are commonly stated in terms such as growth in assets, growth in sales, profitability, market share, degree and nature of diversification, degree and nature of vertical integration, earnings per share, and social responsibility. Clearly established objectives offer many benefits. They provide direction, allow synergy, aid in evaluation, establish priori- ties, reduce uncertainty, minimize conflicts, stimulate exertion, and aid in both the allocation of resources and the design of jobs. Objectives provide a basis for consistent decision making by managers whose values and attitudes differ. Objectives serve as standards by which individuals, groups, departments, divisions, and entire organizations can be evaluated.

Long-term objectives are needed at the corporate, divisional, and functional levels of an organization. They are an important measure of managerial performance. Many practitio- ners and academicians attribute a significant part of U.S. industry’s competitive decline to the short-term, rather than long-term, strategy orientation of managers in the United States. Arthur D. Little argues that bonuses or merit pay for managers today must be based to a greater extent on long-term objectives and strategies. A general framework for relating objec- tives to performance evaluation is provided in Table 5-1. A particular organization could tailor these guidelines to meet its own needs, but incentives should be attached to both long-term and annual objectives.

Without long-term objectives, an organization would drift aimlessly toward some unknown end. It is hard to imagine an organization or individual being successful without clear objectives (see Tables 5-2 and 5-3). Success only rarely occurs by accident; rather, it is the result of hard work directed toward achieving certain objectives.

Financial versus Strategic Objectives Two types of objectives are especially common in organizations: financial and strategic objec- tives. Financial objectives include those associated with growth in revenues, growth in earnings, higher dividends, larger profit margins, greater return on investment, higher earnings per share, a rising stock price, improved cash flow, and so on; while strategic objectives include things such as a larger market share, quicker on-time delivery than rivals, shorter design-to-market times

Table 5-1 Varying Performance Measures by Organizational Level

organizational level Basis for Annual Bonus or Merit Pay

Corporate 75% based on long-term objectives

25% based on annual objectives

Division 50% based on long-term objectives

50% based on annual objectives

Function 25% based on long-term objectives

75% based on annual objectives

Table 5-2 The Desired Characteristics of Objectives

1. Quantitative

2. Measurable

3. Realistic

4. Understandable

5. Challenging

6. Hierarchical

7. Obtainable

8. Congruent across departments

134 Part 2 • Strategy formulation

than rivals, lower costs than rivals, higher product quality than rivals, wider geographic coverage than rivals, achieving technological leadership, consistently getting new or improved products to market ahead of rivals, and so on.

Although financial objectives are especially important in firms, oftentimes there is a trade- off between financial and strategic objectives such that crucial decisions have to be made. For example, a firm can do certain things to maximize short-term financial objectives that would harm long-term strategic objectives. To improve financial position in the short run through higher prices may, for example, jeopardize long-term market share. The dangers associated with trading off long-term strategic objectives with near-term bottom-line performance are especially severe if competitors relentlessly pursue increased market share at the expense of short-term profitability. And there are other trade-offs between financial and strategic objectives, related to riskiness of actions, concern for business ethics, need to preserve the natural environment, and social responsibility issues. Both financial and strategic objectives should include both annual and long-term performance targets. Ultimately, the best way to sustain competitive advantage over the long run is to relentlessly pursue strategic objectives that strengthen a firm’s business position over rivals. Financial objectives can best be met by focusing first and foremost on achieving on strategic objectives that improve a firm’s competi- tiveness and market strength.

Not Managing by Objectives An unidentified educator once said, “If you think education is expensive, try ignorance.” The idea behind this saying also applies to establishing objectives. Strategists should avoid the fol- lowing alternative ways of “not managing by objectives.”

• Managing by Extrapolation—adheres to the principle “If it ain’t broke, don’t fix it.” The idea is to keep on doing the same things in the same ways because things are going well.

• Managing by Crisis—based on the belief that the true measure of a really good strategist is the ability to solve problems. Because there are plenty of crises and problems to go around for every person and every organization, strategists ought to bring their time and creative energy to bear on solving the most pressing problems of the day. Managing by crisis is ac- tually a form of reacting rather than acting and of letting events dictate the what and when of management decisions.

• Managing by Subjectives—built on the idea that there is no general plan for which way to go and what to do; just do the best you can to accomplish what you think should be done. In short, “Do your own thing, the best way you know how” (sometimes referred to as the mystery approach to decision making because subordinates are left to figure out what is happening and why).

• Managing by Hope—based on the fact that the future is laden with great uncertainty and that if we try and do not succeed, then we hope our second (or third) attempt will suc- ceed. Decisions are predicated on the hope that they will work and that good times are just around the corner, especially if luck and good fortune are on our side!2

Table 5-3 The Benefits of Having Clear Objectives

1. Provide direction by revealing expectations

2. Allow synergy

3. Aid in evaluation by serving as standards

4. Establish priorities

5. Reduce uncertainty

6. Minimize conflicts

7. Stimulate exertion

8. Aid in allocation of resources

9. Aid in design of jobs

10. Provide basis for consistent decision making

ChaPter 5 • StrategieS in aCtion 135

The Balanced Scorecard Developed in 1993 by Harvard Business School professors Robert Kaplan and David Norton, and refined continually through today, the Balanced Scorecard is a strategy evaluation and con- trol technique.3 Balanced Scorecard derives its name from the perceived need of firms to “bal- ance” financial measures that are oftentimes used exclusively in strategy evaluation and control with nonfinancial measures such as product quality and customer service. An effective Balanced Scorecard contains a carefully chosen combination of strategic and financial objectives tailored to the company’s business.

As a tool to manage and evaluate strategy, the Balanced Scorecard is currently in use at Sears, United Parcel Service, 3M Corporation, Heinz, and hundreds of other firms. For example, 3M Corporation has a financial objective to achieve annual growth in earnings per share of 10 percent or better, as well as a strategic objective to have at least 30 percent of sales come from products introduced in the past four years. The overall aim of the Balanced Scorecard is to “bal- ance” shareholder objectives with customer and operational objectives. Obviously, these sets of objectives interrelate and many even conflict. For example, customers want low price and high service, which may conflict with shareholders’ desire for a high return on their investment. The Balanced Scorecard concept is consistent with the notions of continuous improvement in man- agement (CIM) and total quality management (TQM).

Although the Balanced Scorecard concept is covered in more detail in Chapter 9 as it relates to evaluating strategies, firms should establish objectives and evaluate strategies on criteria other than financial measures. Financial measures and ratios are vitally important in strategic planning, but of equal importance are factors such as customer service, employee morale, product quality, pollution abatement, business ethics, social responsibility, commu- nity involvement, and other such items. In conjunction with financial measures, these “softer” factors comprise an integral part of both the objective-setting process and the strategy- evaluation process. A Balanced Scorecard for a firm is simply a listing of all key objectives to work toward, along with an associated time dimension of when each objective is to be accomplished, as well as a primary responsibility or contact person, department, or division for each objective.

Types of Strategies The model illustrated in Figure 5-1 provides a conceptual basis for applying strategic manage- ment. Defined and exemplified in Table 5-4, alternative strategies that an enterprise could pursue can be categorized into 11 actions: forward integration, backward integration, horizontal inte- gration, market penetration, market development, product development, related diversification, unrelated diversification, retrenchment, divestiture, and liquidation. Each alternative strategy has countless variations. For example, market penetration can include adding salespersons, increas- ing advertising expenditures, couponing, and using similar actions to increase market share in a given geographic area.

Many, if not most, organizations simultaneously pursue a combination of two or more strat- egies, but a combination strategy can be exceptionally risky if carried too far. No organization can afford to pursue all the strategies that might benefit the firm. Difficult decisions must be made. Priority must be established. Organizations, like individuals, have limited resources. Both organizations and individuals must choose among alternative strategies and avoid excessive in- debtedness.

Hansen and Smith explain that strategic planning involves “choices that risk resources” and “trade-offs that sacrifice opportunity.” In other words, if you have a strategy to go north, then you must buy snowshoes and warm jackets (spend resources) and forgo the opportu- nity of “faster population growth in southern states.” You cannot have a strategy to go north and then take a step east, south, or west “just to be on the safe side.” Firms spend resources and focus on a finite number of opportunities in pursuing strategies to achieve an uncertain outcome in the future. Strategic planning is much more than a roll of the dice; it is a wager based on predictions and hypotheses that are continually tested and refined by knowledge, research, experience, and learning. Survival of the firm itself may hinge on your strategic plan.4

136 Part 2 • Strategy formulation

Organizations cannot do too many things well because resources and talents get spread thin and competitors gain advantage. In large, diversified companies, a combination strategy is com- monly employed when different divisions pursue different strategies. Also, organizations strug- gling to survive may simultaneously employ a combination of several defensive strategies, such as divestiture, liquidation, and retrenchment.

Levels of Strategies Strategy making is not just a task for top executives. Middle-and lower-level managers also must be involved in the strategic-planning process to the extent possible. In large firms, there are ac- tually four levels of strategies: corporate, divisional, functional, and operational—as illustrated in Figure 5-2. However, in small firms, there are actually three levels of strategies: company, functional, and operational.

In large firms, the persons primarily responsible for having effective strategies at the vari- ous levels include the CEO at the corporate level; the president or executive vice president at the

Figure 5-1

a Comprehensive Strategic-Management Model

Strategy Formulation

Strategy Implementation

Strategy Evaluation

Chapter 10: Business Ethics/Social Responsibility/Environmental Sustainability Issues

Chapter 11: Global/International Issues

Measure and Evaluate Performance

Chapter 9

Implement Strategies— Marketing,

Finance, Accounting, R&D,

and MIS Issues Chapter 8

Implement Strategies—

Management Issues

Chapter 7

Perform External Audit

Chapter 3

Develop Vision and Mission Statements Chapter 2

Establish Long-Term Objectives Chapter 5

Generate, Evaluate, and Select Strategies Chapter 6

Perform Internal Audit

Chapter 4

Source: Fred R. David, “How Companies Define Their Mission,” Long Range Planning 22, no. 3 (June 1988): 40.

ChaPter 5 • StrategieS in aCtion 137

divisional level; the respective chief finance officer (CFO), chief information officer (CIO), hu- man resource manager (HRM), chief marketing officer (CMO), and so on at the functional level; and the plant manager, regional sales manager, and so on at the operational level. In small firms, the persons primarily responsible for having effective strategies at the various levels include the business owner or president at the company level and then the same range of persons at the lower two levels, as with a large firm.

It is important that all managers at all levels participate and understand the firm’s strategic plan to help ensure coordination, facilitation, and commitment while avoiding inconsistency, inefficiency, and miscommunication. Plant managers, for example, need to understand and be supportive of the overall strategic plan (game plan), while the president and the CEO need to be knowledgeable of strategies being employed in various sales territories and manufacturing plants.

Table 5-4 Alternative Strategies Defined and Exemplified

Strategy Definition 2011 Examples

Forward Integration

Gaining ownership or increased control over distributors or retailers

For ward Integration—Starbucks reached a deal with Green Mountain Coffee Roasters for that firm to sell packs of Starbucks Tazo-branded coffee and tea in their brewers

Backward Integration

Seeking ownership or increased control of a firm’s suppliers

Bac kward Integration—Dell Inc. acquired network security (virus protection) producer Secure Works Inc.

Horizontal Integration

Seeking ownership or increased control over competitors

Hor izontal Integration—French drugmaker SanofiAventis purchased U.S. biotech drugmaker Genzyme for $20.1 billion

Market Penetration

Seeking increased market share for present products or services in present markets through greater marketing efforts

Mar ket Penetration—Neiman Marcus (NM) launched NM Daily to attract less-affluent cus- tomers and hired a new “Managing Editor of Social Media” (Jean Scheidnes) to tweet and post for NM

Market Development

Introducing present products or services into new geographic area

Mar ket Development—Hawaiian Airlines began offering flights from Hawaii to Seoul, Korea, and Tokyo, Japan—rather than mostly flying to and from the U.S. mainland

Product Development

Seeking increased sales by improving present products or services or developing new ones

Pro duct Development—Apple introduced the new iPad 2

Related Diversification

Adding new but related products or services Rel ated Diversification—Amazon.com began al- lowing users to pay $79 per year for “Amazon Prime,” which allows users to stream over 5,ooo movies and TV shows

Unrelated Diversification

Adding new, unrelated products or services Unr elated Diversification—Many banks now own, by default, many properties, putting many banks reluctantly in the real estate and/or property management business

Retrenchment Regrouping through cost and asset reduction to reverse declining sales and profit

Ret renchment—Borders closed 200 of its 488 superstores and laid off 6,000 of its 19,500 employees

Divestiture Selling a division or part of an organization Div estiture—Marriott sold its timeshare business, creating the world’s largest autonomous time- share business, consisting of 71 properties with 33,000 rooms

Liquidation Selling all of a company’s assets, in parts, for their tangible worth

Liq uidation—Blockbuster Inc. barely escaped liquidation in March 2011

138 Part 2 • Strategy formulation

Integration Strategies Forward integration, backward integration, and horizontal integration are sometimes collectively referred to as vertical integration strategies. Vertical integration strategies allow a firm to gain control over distributors, suppliers, and/or competitors.

Forward Integration Forward integration involves gaining ownership or increased control over distributors or retail- ers. Increasing numbers of manufacturers (suppliers) today are pursuing a forward integration strategy by establishing websites to directly sell products to consumers. This strategy is causing turmoil in some industries. For example, Apple Inc. recently began selling its iPad and iPhone through Verizon Wireless’s 2,000 stores and AT&T’s 2,200 stores. Apple’s forward integration strategy aims to capitalize on its lead in tablets before the rival BlackBerry and Motorola ver- sions are released.

Based in Herzogenaurach, Germany, Adidas plans to add 2,500 stores in China between 2011 and 2015 as the company widens its distribution in that country from 500 cities currently to over 1,400. As part of its new forward integration strategy in China, Adidas plans also to boost its presence in basketball, a sport that Adidas emphasizes less than competitors such as Nike and Li Ning Company, China’s leading sports-apparel maker. Adidas recently sponsored the Beijing Marathon, the company’s first running competition in China.

Chrysler Group LLC in 2011 opened its first company-owned dealership, Motor Village of Los Angeles, a four-level facility in downtown Los Angeles that houses all of Chrysler’s brands, including Fiat. This dealership sells and services all Chrysler vehicles and is a test facility for showroom innovations.

Wal-Mart Stores recently began allowing customers to buy merchandise online at www. walmart.com and have it delivered free of charge to urban FedEx Corp. locations. Wal-Mart has never been very successful in large cities, and the company sees this new forward integration strategy as beneficial. Wal-Mart is test marketing this new strategy in Boston and Los Angeles, where the company has no stores.

The Washington Post Co. recently launched a free news-aggregation website called Trove that lets readers build their own news site based on particular topics they choose. Battered by declining revenues, newspaper companies are using forward integration to provide services that tailor the news experience to each individual reader. Trove sifts through more than 10,000 news sources and delivers articles to a personalized customer page.

An effective means of implementing forward integration is franchising. Approximately 2,000 companies in about 50 different industries in the United States use franchising to

Figure 5-2

levels of Strategies With Persons Most responsible

Corporate Level—chief

executive officer

Division Level—division president or executive

vice president

Functional Level—finance, marketing, R&D, manufacturing, information systems,

and human resource managers

Operational Level—plant managers, sales managers, production and department managers

Large Company

Company Level—owner or president

Functional Level— finance, marketing, R&D,

manufacturing, information systems, and human resource managers

Operational Level—plant managers, sales managers, production and department managers

Small Company

ChaPter 5 • StrategieS in aCtion 139

distribute their products or services. Businesses can expand rapidly by franchising because costs and opportunities are spread among many individuals. Total sales by franchises in the United States are annually about $1 trillion.

The International Franchise Association Educational Foundations reports that the number of franchise businesses in the United States is expected to grow 2.5 percent in 2011 to 784,802. However, a growing trend is for franchisees, who for example may operate 10 franchised restau- rants, stores, or whatever, to buy out their part of the business from their franchiser (corporate owner). There is a growing rift between franchisees and franchisers as the segment often out- performs the parent. For example, McDonald’s today owns only about 20 percent of its 32,800 restaurants. Restaurant chains are increasingly being pressured to own fewer of their locations. Companies such as McDonald’s are using proceeds from the sale of company stores/restaurants to franchisees to buy back company stock, pay higher dividends, and make other investments to benefit shareholders.

The following six guidelines indicate when forward integration may be an especially effec- tive strategy:5

• When an organization’s present distributors are especially expensive, or unreliable, or inca- pable of meeting the firm’s distribution needs.

• When the availability of quality distributors is so limited as to offer a competitive advan- tage to those firms that integrate forward.

• When an organization competes in an industry that is growing and is expected to continue to grow markedly; this is a factor because forward integration reduces an organization’s ability to diversify if its basic industry falters.

• When an organization has both the capital and human resources needed to manage the new business of distributing its own products.

• When the advantages of stable production are particularly high; this is a consideration be- cause an organization can increase the predictability of the demand for its output through forward integration.

• When present distributors or retailers have high profit margins; this situation suggests that a company could profitably distribute its own products and price them more competitively by integrating forward.

Backward Integration Both manufacturers and retailers purchase needed materials from suppliers. Backward integra- tion is a strategy of seeking ownership or increased control of a firm’s suppliers. This strategy can be especially appropriate when a firm’s current suppliers are unreliable, too costly, or cannot meet the firm’s needs.

Wal-Mart recently announced that over the next five years the company will double the amount of food bought from local farmers in the United States. This backward integration strategy complements the company’s plan to build hundreds of new, smaller Wal-Mart Express stores in small towns across the U.S. Wal-Mart hopes to reverse the booming business of Family Dollar, Dollar General, and Dollar Tree—which together have caused Wal-Mart’s U.S. revenues to decline.

The largest coffee company in the world and, based in Switzerland, Nestle is training thou- sands of farmers over the next 10 years and providing them with new coffee trees. With this backward integration strategy, Nestle does not own the plantations or bind farmers into long- term contracts, but CEO Paul Bulcke says the relationship the firm develops with farmers will lead them to sell to Nestle. This may be a wise strategy for Nestle because rival firms such as Unilever and Kraft Foods struggle to obtain better control of raw materials. Nestle’s coffee strat- egy comes just after the firm’s backward integration strategy of recently spending $106 million to replant cocoa trees in Ivory Coast in West Africa.

Some industries in the United States, such as the automotive and aluminum industries, are reducing their historical pursuit of backward integration. Instead of owning their sup- pliers, companies negotiate with several outside suppliers. Ford and Chrysler buy over half of their component parts from outside suppliers such as TRW, Eaton, General Electric, and Johnson Controls. De-integration makes sense in industries that have global sources of supply. Companies today shop around, play one seller against another, and go with the best deal.

140 Part 2 • Strategy formulation

Global competition is also spurring firms to reduce their number of suppliers and to de- mand higher levels of service and quality from those they keep. Although traditionally relying on many suppliers to ensure uninterrupted supplies and low prices, American firms now are following the lead of Japanese firms, which have far fewer suppliers and closer, long-term relationships with those few. “Keeping track of so many suppliers is onerous,” says Mark Shimelonis, formerly of Xerox.

Seven guidelines when backward integration may be an especially effective strategy are:6

• When an organization’s present suppliers are especially expensive, or unreliable, or inca- pable of meeting the firm’s needs for parts, components, assemblies, or raw materials.

• When the number of suppliers is small and the number of competitors is large. • When an organization competes in an industry that is growing rapidly; this is a factor

because integrative-type strategies (forward, backward, and horizontal) reduce an orga- nization’s ability to diversify in a declining industry.

• When an organization has both capital and human resources to manage the new business of supplying its own raw materials.

• When the advantages of stable prices are particularly important; this is a factor because an organization can stabilize the cost of its raw materials and the associated price of its product(s) through backward integration.

• When present supplies have high profit margins, which suggests that the business of sup- plying products or services in the given industry is a worthwhile venture.

• When an organization needs to quickly acquire a needed resource.

Horizontal Integration Horizontal integration refers to a strategy of seeking ownership of or increased control over a firm’s competitors. One of the most significant trends in strategic management today is the increased use of horizontal integration as a growth strategy. Mergers, acquisitions, and takeovers among competitors allow for increased economies of scale and enhanced transfer of resources and competencies. Kenneth Davidson makes the following observation about horizontal integration:

The trend towards horizontal integration seems to reflect strategists’ misgivings about their ability to operate many unrelated businesses. Mergers between direct competitors are more likely to create efficiencies than mergers between unrelated businesses, both because there is a greater potential for eliminating duplicate facili- ties and because the management of the acquiring firm is more likely to understand the business of the target.7

Consolidation is intensifying weekly in the airline industry. Dallas, Texas-based Southwest Airlines recently paid $1.4 billion in cash and stock to acquire AirTran Holdings based in Orlando, Florida. AirTran also had a hub at the world’s largest airport—Atlanta International Airport in Georgia. Fierce rivals United Airlines and Continental Airlines recently combined forces to eclipse Delta as the world’s largest airline. Southwest now flies more passengers inside the United States (105 million) annually than any other airline.

Horizontal integration is becoming the strategy of choice in countless industries to achieve economies of scale and efficiencies. Unilever PLC, for example, just acquired the U.S. hair- care firm Alberto Culver, moving into direct competition with Procter & Gamble and L’Oreal SA in shampoo and other personal products. Although known primarily for food products such as Ben & Jerry’s ice cream and Lipton tea, Unilever is a huge personal-care products firm having months earlier purchased Sara Lee Corp.’s deodorant and body care products for $1.73 billion.

Canadian banks in general came through the recession in excellent shape and are aggressively looking to acquire U.S. banks. The Bank of Montreal recently purchased Milwaukee-based Marshall & Ilsley Corp. for $4.1 billion and there are many similar examples. Unlike U.S. banks, Canada’s banks did not require bailout funds and avoided the subprime- mortgage crisis due to conservative lending practices and tight regulations.

ChaPter 5 • StrategieS in aCtion 141

These five guidelines indicate when horizontal integration may be an especially effective strategy:8

• When an organization can gain monopolistic characteristics in a particular area or region without being challenged by the federal government for “tending substantially” to reduce competition.

• When an organization competes in a growing industry. • When increased economies of scale provide major competitive advantages. • When an organization has both the capital and human talent needed to successfully manage

an expanded organization. • When competitors are faltering due to a lack of managerial expertise or a need for particu-

lar resources that an organization possesses; note that horizontal integration would not be appropriate if competitors are doing poorly, because in that case overall industry sales are declining.

Intensive Strategies Market penetration, market development, and product development are sometimes referred to as intensive strategies because they require intensive efforts if a firm’s competitive position with existing products is to improve.

Market Penetration A market penetration strategy seeks to increase market share for present products or services in present markets through greater marketing efforts. This strategy is widely used alone and in combination with other strategies. Market penetration includes increasing the number of salespersons, increasing advertising expenditures, offering extensive sales promotion items, or increasing publicity efforts. United Parcel Service (UPS) recently launched its largest marketing campaign ever, replacing its memorable slogan “What can Brown do for you?’ with the slogan “We [Heart] Logistics”. Advertisements promoting this new slogan are running worldwide on both television and digital-media outlets. The television ads feature a new UPS jingle set to the tune of the Dean Martin classic “That’s Amore” sung in Mandarin, Spanish, or English as appropriate.

The maker of Guinness beer recently launched its largest marketing push ever in the United States, including a sports-themed advertising campaign that features ex-footballer Jerome Bettis and ex-NFL coach Bill Cowher. Guinness has long been associated with soccer and rugby, but now wants to be associated with football and basketball.

Starbucks is tripling its number of outlets in China. Dunkin’Brands, which owns both Dunkin’ Donuts and Baskin-Robbins, also is opening thousands of new outlets in China.

These five guidelines indicate when market penetration may be an especially effective strategy:9

• When current markets are not saturated with a particular product or service. • When the usage rate of present customers could be increased significantly. • When the market shares of major competitors have been declining while total industry

sales have been increasing. • When the correlation between dollar sales and dollar marketing expenditures historically

has been high. • When increased economies of scale provide major competitive advantages.

Market Development Market development involves introducing present products or services into new geographic areas. For example, Ford Motor is introducing eight new vehicles in India between 2011 and 2015 to capitalize on increasing demand in the fast-expanding car market. Ford also has be- gun exporting its new Figo small car from India to 50 new markets, including Mexico, North Africa, and the Middle East. Ford’s new market development strategy is aimed at taking advantage of fast-growing emerging markets while insulating the firm from slow-growing U.S. and European markets.

142 Part 2 • Strategy formulation

The oldest American beer brewer, D.G. Yuengling & Son, recently expanded beyond its 13-state footprint in the Eastern U.S. Pronounced ying-ling, the 181-year-old regional beer brewer bought a former Coors brewery in Memphis, Tennessee, more than doubling its overall capacity and enabling an aggressive market development strategy. Yuengling has about 250 em- ployees compared to about 700 at rival firm Samuel Adams.

Based in Sweden, Volvo is building three new assembly plants in China and increasing its number of vehicles in that country from 24,000 to 300,000 in the next three years. Volvo desires to become one of China’s largest car manufacturers and is launching 24 new models in that country between 2011 and 2015. Volvo used to be owned by Ford.

Las Vegas Sands Corp. recently built the only casino in Singapore, the famous city-state that has a global reputation for being crime-free and family-friendly. Called the Marina Bay Sands, this casino was a booming success in 2010–2011 and expectations are that as early as 2012, Singapore may take in more gaming revenues than Las Vegas. Another new casino in Singapore is the $4.4 billion Resorts World Sentosa owned by Malaysia’s Genting Bhd.

Both Subway and Dunkin’ Brands recently opened their first restaurants in Vietnam. Subway also just opened its first outlet in Bahrain. Subway expects its number of international restaurants to surpass its number of U.S. restaurants by 2020. Many customers say it is hard to beat Subway’s $5 foot-long sandwiches in terms of value and nutrition. Starbucks expects to open its first restaurants in India within 12 months.

These six guidelines indicate when market development may be an especially effective strategy:10

• When new channels of distribution are available that are reliable, inexpensive, and of good quality.

• When an organization is very successful at what it does. • When new untapped or unsaturated markets exist. • When an organization has the needed capital and human resources to manage expanded

operations. • When an organization has excess production capacity. • When an organization’s basic industry is rapidly becoming global in scope.

Product Development Product development is a strategy that seeks increased sales by improving or modifying present products or services. Product development usually entails large research and development expenditures. Google’s new Chrome OS operating system illuminates years of monies spent on product development. Google expects Chrome OS to overtake Microsoft Windows by 2015.

Product development is perhaps the most important strategy for high-tech firms such as Acer. To compete with Apple’s iPad and tablets, the world’s second-largest PC maker by shipments, Acer, released in 2011 a tablet running Microsoft Windows software with a 10.1- inch screen. Acer also released two tablets using Google’s Android software. Acer expects to sell about 50 million tablets worldwide in 2011. Historically, Acer had relied on netbooks (tiny, low-priced laptops). Also recently, Acer released a smartphone with a 4.8-inch screen run- ning on Android software.

The world’s largest hotel chain, Holiday Inn, recently completed a $1 billion upgrade to all of its 3,400 hotels. The mandatory upgrades includes new bedding, flat-screen TVs, better shower fixtures, and sleeker roadside signs. The product development strategy also includes closing 700 older, outdated hotels and adding 1,100 new, deluxe Holiday Inn hotels so the average age of Holiday Inn hotels is now 15 years.

Hilton Worldwide recently opened its first new hotel brand in 20 years—a Home2 Suites in Fayetteville, North Carolina. Home2 Suites moves Hilton into the mid-tier extended-stay mar- ket, although the company already owns Homewood Suites, aimed at the upscale extended-stay segment. Hilton opened about 10 new Home2 Suites in the U.S. in 2011.

In total, there were 40,820 new products introduced in the United States in 2010, up from 38,738 in 2009, and expected to exceed 45,000 in 2011.11 Social media, especially Facebook, Twitter, and YouTube, is being used extensively by companies to both generate new ideas and market resultant new products, such as Colgate’s new foaming toothpaste called Colgate MaxClean SmartFoam.

ChaPter 5 • StrategieS in aCtion 143

These five guidelines indicate when product development may be an especially effective strategy to pursue:12

• When an organization has successful products that are in the maturity stage of the product life cycle; the idea here is to attract satisfied customers to try new (improved) products as a result of their positive experience with the organization’s present products or services.

• When an organization competes in an industry that is characterized by rapid technological developments.

• When major competitors offer better-quality products at comparable prices. • When an organization competes in a high-growth industry. • When an organization has especially strong research and development capabilities.

Diversification Strategies There are two general types of diversification strategies: related and unrelated. Businesses are said to be related when their value chains possesses competitively valuable cross-business strategic fits; businesses are said to be unrelated when their value chains are so dissimilar that no competitively valuable cross-business relationships exist.13 Most companies favor related diversification strategies in order to capitalize on synergies as follows:

• Transferring competitively valuable expertise, technological know-how, or other capabili- ties from one business to another.

• Combining the related activities of separate businesses into a single operation to achieve lower costs.

• Exploiting common use of a well-known brand name. • Cross-business collaboration to create competitively valuable resource strengths and capa-

bilities.14

Diversification strategies are becoming less popular as organizations are finding it more dif- ficult to manage diverse business activities. In the 1960s and 1970s, the trend was to diversify to avoid being dependent on any single industry, but the 1980s saw a general reversal of that think- ing. Diversification is now on the retreat. Michael Porter, of the Harvard Business School, says, “Management found it couldn’t manage the beast.” Hence businesses are selling, or closing, less profitable divisions to focus on core businesses.

The greatest risk of being in a single industry is having all of the firm’s eggs in one basket. Although many firms are successful operating in a single industry, new technologies, new prod- ucts, or fast-shifting buyer preferences can decimate a particular business.

Diversification must do more than simply spread business risk across different indus- tries, however, because shareholders could accomplish this by simply purchasing equity in different firms across different industries or by investing in mutual funds. Diversification makes sense only to the extent the strategy adds more to shareholder value than what shareholders could accomplish acting individually. Thus, the chosen industry for diver- sification must be attractive enough to yield consistently high returns on investment and offer potential across the operating divisions for synergies greater than those entities could achieve alone.

A few companies today, however, pride themselves on being conglomerates, from small firms such as Pentair Inc. and Blount International to huge companies such as Textron, Allied Signal, Emerson Electric, General Electric, Viacom, and Samsung. Conglomerates prove that focus and diversity are not always mutually exclusive.

Many strategists contend that firms should “stick to the knitting” and not stray too far from the firms’ basic areas of competence. However, diversification is still sometimes an appropriate strategy, especially when the company is competing in an unattractive industry. Hamish Maxwell, Philip Morris’s former CEO, says, “We want to become a consumer- products company.” Diversification makes sense for Philip Morris because cigarette consump- tion is declining, product liability suits are a risk, and some investors reject tobacco stocks on principle.

144 Part 2 • Strategy formulation

Related Diversification In the 2010–2015 era, firms are generally moving away from diversification to focus. That dis- mantling is a clear trend. For example, ITT Corp. recently divided itself into three separate, spe- cialized companies. ITT once owned everything from Sheraton hotels and Hartford Insurance to the maker of Wonder bread and Hostess Twinkies. About the ITT breakup, analyst Barry Knap said, “Companies generally are not very efficient diversifiers; investors usually can do a better job of that by purchasing stock in a variety of companies.”

Bucking the trend however is Berkshire Hathaway, a holding company for diverse compa- nies that include Dairy Queen, Burlington Northern Santa Fe Railroad, and Geico Insurance. Also bucking the trend, Panasonic Corp. recently diversified into hand-held, online video- games with a new product called the Jungle. Panasonic for years had focused on rechargeable batteries for electric cars as well as solar cells for home and industry, but with the Jungle, the firm is re-entering a business that it abandoned more than a decade ago.

PepsiCo in 2011 diversified into the dairy market by acquiring the Russian firm Wimm- Bill-Dann for $5.4 billion. This acquisition establishes PepsiCo as the largest food-and-beverage firm in Russia, and that country becomes PepsiCo’s largest revenue generator outside of the United States. This acquisition comes soon after PepsiCo’s $2 billion acquisition of the Russian fruit-juice maker OAO Lebedyansky. PepsiCo and Coke are fierce rivals in Russia, and of course around the world.

Electricity producer, NRG Energy Inc., recently entered the car-charging business, creating a network of 150 public charging points in Houston, Texas, and New York City. This is a “first mover” strategy because it signals that car charging may follow a subscription-based business model, rather than the price-per-unit model that has been used for decades to sell gasoline. NRG’s customers will have a choice of three subscription plans, each with a three-year contract, beginning with a $49 monthly fee.

Based in Peoria, Illinois, Caterpillar recently diversified beyond its core areas of construc- tion and mining machinery by acquiring a maker of railroad locomotives, Electro-Motive Diesel, and by also acquiring MWM Holding GmbH, a German maker of power-generation equipment. Caterpillar had cash and short-term investments of $2.27 billion and preferred to use those mon- ies “to fund attractive growth initiatives” rather than to repurchase stock or increase dividend payouts.

Intel Corp. recently diversified beyond providing chips for personal computers by ac- quiring for $7.68 billion the security-software company McAfee, well known for its virus protection software. As part of this diversification strategy away from personal computer chips, Intel also acquired a Texas Instruments division that sells cable-modem chips as well as Infineon Technologies, AG’s wireless chip business. Intel is also working with Google to supply chips that enable people to more easily navigate through websites and TV programs.

In a related diversification move, Tyson Foods recently entered the dog food business, selling refrigerated pet food targeted to consumers who give their pets everything from clothes and car seats to cemetery graves. Prior to this move by Tyson, meatpacking compa- nies had been content to sell scraps such as chicken fat and by-products to makers of canned and dry pet food. Scott Morris of Freshpet Company in Secaucus, New Jersey, says this move by Tyson will change the fact that “pet food today looks the same as it did 30 years ago.”

Six guidelines for when related diversification may be an effective strategy are as follows.15

• When an organization competes in a no-growth or a slow-growth industry. • When adding new, but related, products would significantly enhance the sales of current

products. • When new, but related, products could be offered at highly competitive prices. • When new, but related, products have seasonal sales levels that counterbalance an organi-

zation’s existing peaks and valleys. • When an organization’s products are currently in the declining stage of the product’s life

cycle. • When an organization has a strong management team.

ChaPter 5 • StrategieS in aCtion 145

Unrelated Diversification An unrelated diversification strategy favors capitalizing on a portfolio of businesses that are capable of delivering excellent financial performance in their respective industries, rather than striving to capitalize on value chain strategic fits among the businesses. Firms that employ unrelated diversification continually search across different industries for companies that can be acquired for a deal and yet have potential to provide a high return on investment. Pursuing unrelated diversification entails being on the hunt to acquire companies whose assets are undervalued, or companies that are financially distressed, or companies that have high growth prospects but are short on investment capital. An obvious drawback of unrelated diversifica- tion is that the parent firm must have an excellent top management team that plans, organizes, motivates, delegates, and controls effectively. It is much more difficult to manage businesses in many industries than in a single industry. However, some firms are successful pursu- ing unrelated diversification, such as Walt Disney, which owns ABC, and General Electric, which owns NBC Universal. GE also produces locomotives, airplanes, appliances, and MRI machines and offers consumer finance, media, entertainment, oil, gas, and lighting products and services.

Tyson Foods recently launched a new diversification strategy, successfully opening a manu- facturing plant that makes diesel and jet fuel from chicken fat, beef tallow, and leftover food grease from the firm’s meat-processing plants. Tyson’s new Louisiana factory can produce 75 million gallons of fat-based fuel annually. Working with Syntroleum Corp, Tyson is using heat to change the molecular structure of fats and oils so their new product performs like conven- tional fuels rather than similar biodiesel products.

In early 2011, Deutsche Bank opened a $4 billion, 3,000-room casino called the Cosmopolitan on the Las Vegas Strip. The huge German bank was originally just funding the project, but when developers defaulted on their loans, Deutsche decided to finish the last two years of work on the project and own and operate the new casino themselves. The new Cosmopolitan features a three-story, crystal-strewn bar meant to evoke the inside of a chande- lier. Other financial institutions worldwide perhaps should consider unrelated diversification also by taking over some of their gone-bad projects rather than taking huge losses. Many more firms have failed at unrelated diversification than have succeeded due to immense management challenges.

Ten guidelines for when unrelated diversification may be an especially effective strategy are:16

• When revenues derived from an organization’s current products or services would increase significantly by adding the new, unrelated products.

• When an organization competes in a highly competitive and/or a no-growth industry, as indicated by low industry profit margins and returns.

• When an organization’s present channels of distribution can be used to market the new products to current customers.

• When the new products have countercyclical sales patterns compared to an organization’s present products.

• When an organization’s basic industry is experiencing declining annual sales and profits.

• When an organization has the capital and managerial talent needed to compete successfully in a new industry.

• When an organization has the opportunity to purchase an unrelated business that is an attractive investment opportunity.

• When there exists financial synergy between the acquired and acquiring firm. (Note that a key difference between related and unrelated diversification is that the former should be based on some commonality in markets, products, or technology, whereas the latter is based more on profit considerations.)

• When existing markets for an organization’s present products are saturated. • When antitrust action could be charged against an organization that historically has

concentrated on a single industry.

146 Part 2 • Strategy formulation

Defensive Strategies In addition to integrative, intensive, and diversification strategies, organizations also could pursue retrenchment, divestiture, or liquidation.

Retrenchment Retrenchment occurs when an organization regroups through cost and asset reduction to re- verse declining sales and profits. Sometimes called a turnaround or reorganizational strategy, retrenchment is designed to fortify an organization’s basic distinctive competence. During retrenchment, strategists work with limited resources and face pressure from shareholders, em- ployees, and the media. Retrenchment can entail selling off land and buildings to raise needed cash, pruning product lines, closing marginal businesses, closing obsolete factories, automating processes, reducing the number of employees, and instituting expense control systems.

Abbott Laboratories in 2011 cut about 3,000 jobs, or 3 percent of its workforce, as part of a major retrenchment strategy to streamline operations and improve efficiencies. Based in Abbott Park, Illinois, the company says most of the layoffs will be in its European operations. Abbott recently acquired Solvay SA’s pharmaceutical division for about $6.1 billion. Abbott restructur- ing included closure of the Solvay facility in Marietta, Georgia.

A total of 157 banks in the United States ceased operations in 2010 due to financial insol- vency. Many more banks followed suit in 2011, such as First Tier Bank in Louisville, Colorado and Enterprise Banking in McDonough, Georgia.

In some cases, bankruptcy can be an effective type of retrenchment strategy. Bankruptcy can allow a firm to avoid major debt obligations and to void union contracts. There are five ma- jor types of bankruptcy: Chapter 7, Chapter 9, Chapter 11, Chapter 12, and Chapter 13.

Chapter 7 bankruptcy is a liquidation procedure used only when a corporation sees no hope of being able to operate successfully or to obtain the necessary creditor agreement. All the orga- nization’s assets are sold in parts for their tangible worth. Chapter 7 is also the bankruptcy provi- sion most frequently used by individuals to wipe out many types of unsecured debt.

Chapter 9 bankruptcy applies to municipalities. Prichard, Alabama (near Mobile), recently declared Chapter 9 bankruptcy when it “simply ran out of money to pay its pension obliga- tions.” Five municipalities in the United States filed Chapter 9 bankruptcy in 2010, but this part of the bankruptcy code is largely untested in courts. In fact, 21 states currently do not al- low municipalities to file Chapter 9 bankruptcy. More than a dozen towns/cities in California, however, are expected to declare bankruptcy in the next 12 months., including San Diego, San Jose, and San Francisco.

Jefferson County in Alabama is home to Birmingham. The county is on the verge of declar- ing bankruptcy, as its fiscal soundness has deteriorated way beyond repair. Several Jefferson County former officials have been convicted of corruption charges related to sewer-bond deal- ings, which, coupled with inept management over many years, has led to the County’s predica- ment. Norfolk, Virginia is in serious financial trouble, as is Reno, New York City, and Detroit.

Chapter 11 bankruptcy allows organizations to reorganize and come back after filing a peti- tion for protection.

Chapter 12 bankruptcy was created by the Family Farmer Bankruptcy Act of 1986. This law became effective in 1987 and provides special relief to family farmers with debt equal to or less than $1.5 million.

Chapter 13 bankruptcy is a reorganization plan similar to Chapter 11, but it is available only to small businesses owned by individuals with unsecured debts of less than $100,000 and secured debts of less than $350,000. The Chapter 13 debtor is allowed to operate the business while a plan is being developed to provide for the successful operation of the business in the future.

Based in Los Angeles, California, Metro-Goldwyn-Mayer (MGM) Inc. recently declared Chapter 11 bankruptcy. MGM owns more than 4,100 movie titles, including the James Bond and Rocky franchises, but the firm’s huge debt situation became too high to service.

Publisher of the National Enquirer and the Star and Men’s Fitness magazines, American Media Inc. recently declared Chapter 11 bankruptcy. Based in Boca Raton, Florida, American Media told its advertisers, employees, customers, and vendors to expect “business as usual” during its restructuring.

ChaPter 5 • StrategieS in aCtion 147

Based in Secaucus, New Jersey, Urban Brands recently filed bankruptcy and is closing most of its 210 Ashley Stewart stores in 26 states. The stores primarily provide apparel for plus-size urban women.

The fast-food pizza chain, Sbarro Inc., recently declared Chapter 11 bankruptcy. Founded in the late 1950s by the Sbarro family, the company had grown to operate more than 1,000 stores in 40 countries, becoming a common sight in malls. Based in Melville, New York, Sbarro employs about 5,000 people.

Some of the largest bankruptcies in the United States in 2010 were: Ambac Financial Group, Corus Bankshares, FirstFed Financial, Blockbuster, Great Atlantic & Pacific (A&P) Tea, Mesa Air Group, and Affiliated Media. However, there were only 106 public U.S. companies fil- ing bankruptcy in 2010, less than half the 211 public firms that filed the prior year, according to BankruptcyData.com. Owners of the Viceroy resort on the Caribbean island of Anguilla recently declared Chapter 11 bankruptcy protection in Delaware.

Five guidelines for when retrenchment may be an especially effective strategy to pursue are as follows:17

• When an organization has a clearly distinctive competence but has failed consistently to meet its objectives and goals over time.

• When an organization is one of the weaker competitors in a given industry. • When an organization is plagued by inefficiency, low profitability, poor employee morale,

and pressure from stockholders to improve performance. • When an organization has failed to capitalize on external opportunities, minimize external

threats, take advantage of internal strengths, and overcome internal weaknesses over time; that is, when the organization’s strategic managers have failed (and possibly will be re- placed by more competent individuals).

• When an organization has grown so large so quickly that major internal reorganization is needed.

Divestiture Selling a division or part of an organization is called divestiture. Divestiture often is used to raise capital for further strategic acquisitions or investments. Divestiture can be part of an overall retrenchment strategy to rid an organization of businesses that are unprofitable, that require too much capital, or that do not fit well with the firm’s other activities. Divestiture has also become a popular strategy for firms to focus on their core businesses and become less diversified. For ex- ample, the New York-based entertainment company, Viacom, recently divested of its Harmonix videogame division, which had produced the popular “Rock Band” line of games. Harmonix’s “Rock Band” had been locked in brutal competition with a rival video game, “Guitar Hero,” from Activision Blizzard, which is 60 percent owned by Vivendi SA.

Based in Downers Grove, Illinois, Sara Lee Corp. recently divested its North American bread division to Mexican bakery giant Grupo Bimbo for nearly $1 billion. Sara Lee continues to divest nonfood and low-margin units in order to focus on top brands such as Jimmy Dean, Ballpark hot dogs, and Hillshire Farm. Sara Lee is using much of those proceeds to buy back 2.5 million shares of their own stock (because the smaller, more focused company is a candi- date for a takeover).

Based in Louisville, Kentucky, the maker of Jack Daniel’s whiskey, Brown-Forman Corp., is trying to divest its wine business, which consists of eight wine brands that generated $310 million in sales in fiscal 2011. The company’s flagship wines include Fetzer, Boneterra, and Sonoma-Cutrer. The wine business is challenging because it is capital intensive and wine con- sumers commonly experiment with different brands.

The private-equity fund Cerberus Capital Management LP recently sold its Chrysler Financial Corp. division to Toronto, Canada-based Toronto-Dominion Bank for roughly $80 billion. The acquisition by Canada’s second-largest bank makes it one of the five biggest auto lenders in the U.S.

Clorox Company recently divested its auto-care division to private-equity firm Avista Capital Partners for about $780 million. Clorox desires to focus on its health-and-wellness products and desires to buy back some of its own stock. Clorox’s auto-care brands that included STP and Armor All generated global sales of about $300 million.

148 Part 2 • Strategy formulation

Yum Brands is trying to divest its Long John Silver’s and A&W Restaurants chains so the firm can focus on its KFC, Pizza Hut, and Taco Bell international businesses.

Historically firms have divested their unwanted or poorly performing divisions, but the global recession has witnessed firms simply closing such operations. For example, Home Depot is shutting down its Expo home-design stores; defense and aerospace manufacturer Textron Corp is closing groups that financed real estate deals; Pioneer Corp. will soon stop making televisions; Praxair Inc. is closing some of its service-related businesses outside the United States; even Google recently halted efforts to sell advertising on radio stations and in newspapers. Saks, the luxury clothing chain, recently closed 16 of its 18 bridal salons, leaving open only its departments in Manhattan and Beverly Hills.

Six guidelines for when divestiture may be an especially effective strategy to pursue follow:18

• When an organization has pursued a retrenchment strategy and failed to accomplish needed improvements.

• When a division needs more resources to be competitive than the company can provide. • When a division is responsible for an organization’s overall poor performance. • When a division is a misfit with the rest of an organization; this can result from radically

different markets, customers, managers, employees, values, or needs. • When a large amount of cash is needed quickly and cannot be obtained reasonably from

other sources. • When government antitrust action threatens an organization.

Liquidation Selling all of a company’s assets, in parts, for their tangible worth is called liquidation. Liquidation is a recognition of defeat and consequently can be an emotionally difficult strategy. However, it may be better to cease operating than to continue losing large sums of money. For example, based in Mayodan, North Carolina, General Tobacco (GT) liquidated in 2011, as the maker of low-priced cigarettes failed to make payments owed to states under a massive industry settlement. Some GT brands were Bronco, Silver, and GT One.

Thousands of small businesses in the United States liquidate annually without ever mak- ing the news. It is tough to start and successfully operate a small business. In China and Russia, thousands of government-owned businesses liquidate annually as those countries try to privatize and consolidate industries.

These three guidelines indicate when liquidation may be an especially effective strategy to pursue:19

• When an organization has pursued both a retrenchment strategy and a divestitute strategy, and neither has been successful.

• When an organization’s only alternative is bankruptcy. Liquidation represents an orderly and planned means of obtaining the greatest possible cash for an organization’s assets. A company can legally declare bankruptcy first and then liquidate various divisions to raise needed capital.

• When the stockholders of a firm can minimize their losses by selling the organization’s assets.

Michael Porter’s Five Generic Strategies Probably the three most widely read books on competitive analysis in the 1980s were Michael Porter’s Competitive Strategy (Free Press, 1980), Competitive Advantage (Free Press, 1985), and Competitive Advantage of Nations (Free Press, 1989). According to Porter, strategies allow organizations to gain competitive advantage from three different bases: cost leadership, differen- tiation, and focus. Porter calls these bases generic strategies.

Cost leadership emphasizes producing standardized products at a very low per-unit cost for consumers who are price-sensitive. Two alternative types of cost leadership strategies can be defined. Type 1 is a low-cost strategy that offers products or services to a wide range of customers at the low- est price available on the market. Type 2 is a best-value strategy that offers products or services to a wide range of customers at the best price-value available on the market; the best-value strategy aims to offer customers a range of products or services at the lowest price available compared to a rival’s products with similar attributes. Both Type 1 and Type 2 strategies target a large market.

ChaPter 5 • StrategieS in aCtion 149

Porter’s Type 3 generic strategy is differentiation, a strategy aimed at producing products and services considered unique industrywide and directed at consumers who are relatively price- insensitive.

Focus means producing products and services that fulfill the needs of small groups of consumers. Two alternative types of focus strategies are Type 4 and Type 5. Type 4 is a low-cost focus strategy that offers products or services to a small range (niche group) of customers at the lowest price available on the market. Examples of firms that use the Type 4 strategy include Jiffy Lube International and Pizza Hut, as well as local used car dealers and hot dog restaurants. Type 5 is a best-value focus strategy that offers products or services to a small range of customers at the best price-value available on the market. Sometimes called “focused differentiation,” the best-value focus strategy aims to offer a niche group of customers products or services that meet their tastes and requirements better than rivals’ products do. Both Type 4 and Type 5 focus strategies target a small market. However, the difference is that Type 4 strategies offer products or services to a niche group at the lowest price, whereas Type 5 offers products/services to a niche group at higher prices but loaded with features so the offerings are perceived as the best value. Examples of firms that use the Type 5 strategy include Cannondale (top-of-the-line mountain bikes), Maytag (washing machines), and Lone Star Restaurants (steak house), as well as bed-and-breakfast inns and local retail boutiques.

Porter’s five strategies imply different organizational arrangements, control procedures, and incentive systems. Larger firms with greater access to resources typically compete on a cost leadership and/or differentiation basis, whereas smaller firms often compete on a focus basis. Porter’s five generic strategies are illustrated in Figure 5-3. Note that a differentiation strategy (Type 3) can be pursued with either a small target market or a large target market. However, it is not effective to pursue a cost leadership strategy in a small market because profits margins are generally too small. Likewise, it is not effective to pursue a focus strategy in a large market be- cause economies of scale would generally favor a low-cost or best-value cost leadership strategy to gain and/or sustain competitive advantage.

Porter stresses the need for strategists to perform cost-benefit analyses to evaluate “sharing opportunities” among a firm’s existing and potential business units. Sharing activities and resources enhances competitive advantage by lowering costs or increasing differentiation.

Figure 5-3

Porter’s Five generic Strategies

GENERIC STRATEGIES

Cost Leadership Differentiation Focus

Large

SmallS IZ

E O

F M

A R

K E

T

Type 1 Type 2

Type 3 —

Type 4 Type 5

Type 3—

Type 1: Cost Leadership—Low Cost

Type 2: Cost Leadership—Best Value

Type 3: Differentiation

Type 4: Focus—Low Cost

Type 5: Focus—Best Value

Source: Based on Michael E. Porter, Competitive Strategy: Techniques for Analyzing Industries and Competitors (New York: Free Press, 1980), 35–40.

150 Part 2 • Strategy formulation

In addition to prompting sharing, Porter stresses the need for firms to effectively “transfer” skills and expertise among autonomous business units to gain competitive advantage. Depending on factors such as type of industry, size of firm, and nature of competition, various strategies could yield advantages in cost leadership, differentiation, and focus.

Cost Leadership Strategies (Type 1 and Type 2) A primary reason for pursuing forward, backward, and horizontal integration strategies is to gain low-cost or best-value cost leadership benefits. But cost leadership generally must be pursued in conjunction with differentiation. A number of cost elements affect the relative attractive- ness of generic strategies, including economies or diseconomies of scale achieved, learning and experience curve effects, the percentage of capacity utilization achieved, and linkages with suppliers and distributors. Other cost elements to consider in choosing among alternative strate- gies include the potential for sharing costs and knowledge within the organization, R&D costs associated with new product development or modification of existing products, labor costs, tax rates, energy costs, and shipping costs.

Striving to be the low-cost producer in an industry can be especially effective when the market is composed of many price-sensitive buyers, when there are few ways to achieve product differentiation, when buyers do not care much about differences from brand to brand, or when there are a large number of buyers with significant bargaining power. The basic idea is to under- price competitors and thereby gain market share and sales, entirely driving some competitors out of the market. Companies employing a low-cost (Type 1) or best-value (Type 2) cost leadership strategy must achieve their competitive advantage in ways that are difficult for competitors to copy or match. If rivals find it relatively easy or inexpensive to imitate the leader’s cost leader- ship methods, the leaders’ advantage will not last long enough to yield a valuable edge in the marketplace. Recall that for a resource to be valuable, it must be either rare, hard to imitate, or not easily substitutable. To employ a cost leadership strategy successfully, a firm must ensure that its total costs across its overall value chain are lower than competitors’ total costs. There are two ways to accomplish this:20

1. Perform value chain activities more efficiently than rivals and control the factors that drive the costs of value chain activities. Such activities could include altering the plant layout, mastering newly introduced technologies, using common parts or components in different products, simplifying product design, finding ways to operate close to full capacity year- round, and so on.

2. Revamp the firm’s overall value chain to eliminate or bypass some cost-producing activities. Such activities could include securing new suppliers or distributors, selling products online, relocating manufacturing facilities, avoiding the use of union labor, and so on.

When employing a cost leadership strategy, a firm must be careful not to use such aggres- sive price cuts that their own profits are low or nonexistent. Constantly be mindful of cost-saving technological breakthroughs or any other value chain advancements that could erode or destroy the firm’s competitive advantage. A Type 1 or Type 2 cost leadership strategy can be especially effective under the following conditions:21

1. When price competition among rival sellers is especially vigorous. 2. When the products of rival sellers are essentially identical and supplies are readily avail-

able from any of several eager sellers. 3. When there are few ways to achieve product differentiation that have value to buyers. 4. When most buyers use the product in the same ways. 5. When buyers incur low costs in switching their purchases from one seller to another. 6. When buyers are large and have significant power to bargain down prices. 7. When industry newcomers use introductory low prices to attract buyers and build a cus-

tomer base.

A successful cost leadership strategy usually permeates the entire firm, as evidenced by high efficiency, low overhead, limited perks, intolerance of waste, intensive screening of budget requests, wide spans of control, rewards linked to cost containment, and broad employee partici- pation in cost control efforts. Some risks of pursuing cost leadership are that competitors may

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imitate the strategy, thus driving overall industry profits down; that technological breakthroughs in the industry may make the strategy ineffective; or that buyer interest may swing to other dif- ferentiating features besides price. Several example firms that are well known for their low-cost leadership strategies are Wal-Mart, BIC, McDonald’s, Black & Decker, Lincoln Electric, and Briggs & Stratton.

Differentiation Strategies (Type 3) Different strategies offer different degrees of differentiation. Differentiation does not guaran- tee competitive advantage, especially if standard products sufficiently meet customer needs or if rapid imitation by competitors is possible. Durable products protected by barriers to quick copying by competitors are best. Successful differentiation can mean greater product flexibility, greater compatibility, lower costs, improved service, less maintenance, greater convenience, or more features. Product development is an example of a strategy that offers the advantages of differentiation.

A differentiation strategy should be pursued only after a careful study of buyers’ needs and preferences to determine the feasibility of incorporating one or more differentiating features into a unique product that features the desired attributes. A successful differentiation strategy allows a firm to charge a higher price for its product and to gain customer loyalty because consumers may become strongly attached to the differentiation features. Special features that differentiate one’s product can include superior service, spare parts availability, engineering design, product performance, useful life, gas mileage, or ease of use.

A risk of pursuing a differentiation strategy is that the unique product may not be valued highly enough by customers to justify the higher price. When this happens, a cost leadership strategy easily will defeat a differentiation strategy. Another risk of pursuing a differentiation strategy is that competitors may quickly develop ways to copy the differentiating features. Firms thus must find durable sources of uniqueness that cannot be imitated quickly or cheaply by rival firms.

Common organizational requirements for a successful differentiation strategy include strong coordination among the R&D and marketing functions and substantial amenities to attract sci- entists and creative people. Firms can pursue a differentiation (Type 3) strategy based on many different competitive aspects. For example, Mountain Dew and root beer have a unique taste; Lowe’s, Home Depot, and Wal-Mart offer wide selection and one-stop shopping; Dell Computer and FedEx offer superior service; BMW and Porsche offer engineering design and performance; IBM and Hewlett-Packard offer a wide range of products; and E*Trade and Ameritrade offer Internet convenience. Differentiation opportunities exist or can potentially be developed any- where along the firm’s value chain, including supply chain activities, product R&D activities, production and technological activities, manufacturing activities, human resource management activities, distribution activities, or marketing activities.

The most effective differentiation bases are those that are hard or expensive for rivals to du- plicate. Competitors are continually trying to imitate, duplicate, and outperform rivals along any differentiation variable that has yielded competitive advantage. For example, when U.S. Airways cut its prices, Delta quickly followed suit. When Caterpillar instituted its quick-delivery-of- spare-parts policy, John Deere soon followed suit. To the extent that differentiating attributes are tough for rivals to copy, a differentiation strategy will be especially effective, but the sources of uniqueness must be time-consuming, cost prohibitive, and simply too burdensome for rivals to match. A firm, therefore, must be careful when employing a differentiation (Type 3) strategy. Buyers will not pay the higher differentiation price unless their perceived value exceeds the price they are paying.22 Based on such matters as attractive packaging, extensive advertising, quality of sales presentations, quality of website, list of customers, professionalism, size of the firm, and/or profitability of the company, perceived value may be more important to customers than actual value.

A Type 3 differentiation strategy can be especially effective under the following condi- tions:23

1. When there are many ways to differentiate the product or service and many buyers perceive these differences as having value.

2. When buyer needs and uses are diverse.

152 Part 2 • Strategy formulation

3. When few rival firms are following a similar differentiation approach. 4. When technological change is fast paced and competition revolves around rapidly evolving

product features.

Focus Strategies (Type 4 and Type 5) A successful focus strategy depends on an industry segment that is of sufficient size, has good growth potential, and is not crucial to the success of other major competitors. Strategies such as market penetration and market development offer substantial focusing advantages. Midsize and large firms can effectively pursue focus-based strategies only in conjunction with differentiation or cost leadership–based strategies. All firms in essence follow a differentiated strategy. Because only one firm can differentiate itself with the lowest cost, the remaining firms in the industry must find other ways to differentiate their products.

Focus strategies are most effective when consumers have distinctive preferences or re- quirements and when rival firms are not attempting to specialize in the same target segment. Milwaukee, Wisconsin-based Johnson Controls focuses on being a supplier of car interior products. Johnson Controls recently purchased Germany’s Keiper Recaro Group’s auto-parts business, which added 4,750 employees in seven countries producing devices that recline and adjust automobile seats. Johnson Controls now sells about $18 billion in auto-related products annually, although it also has a heating and ventilation equipment segment of the business.

Risks of pursuing a focus strategy include the possibility that numerous competitors will recognize the successful focus strategy and copy it or that consumer preferences will drift to- ward the product attributes desired by the market as a whole. An organization using a focus strat- egy may concentrate on a particular group of customers, geographic markets, or on particular product-line segments to serve a well-defined but narrow market better than competitors who serve a broader market.

A low-cost (Type 4) or best-value (Type 5) focus strategy can be especially attractive under the following conditions:24

1. When the target market niche is large, profitable, and growing. 2. When industry leaders do not consider the niche to be crucial to their own success. 3. When industry leaders consider it too costly or difficult to meet the specialized needs of the

target market niche while taking care of their mainstream customers. 4. When the industry has many different niches and segments, thereby allowing a focuser to

pick a competitively attractive niche suited to its own resources. 5. When few, if any, other rivals are attempting to specialize in the same target segment.

Strategies for Competing in Turbulent, High-Velocity Markets The world is changing more and more rapidly, and consequently industries and firms them- selves are changing faster than ever. Some industries are changing so fast that researchers call them turbulent, high-velocity markets, such as telecommunications, medical, biotechnology, pharmaceuticals, computer hardware, software, and virtually all Internet-based industries. High- velocity change is clearly becoming more and more the rule rather than the exception, even in such industries as toys, phones, banking, defense, publishing, and communication.

Meeting the challenge of high-velocity change presents the firm with a choice of whether to react, anticipate, or lead the market in terms of its own strategies. To primarily react to changes in the industry would be a defensive strategy used to counter, for example, unexpected shifts in buyer tastes and technological breakthroughs. The react-to-change strategy would not be as effective as the anticipate-change strategy, which would entail devising and following through with plans for dealing with the expected changes. However, firms ideally strive to be in a posi- tion to lead the changes in high-velocity markets, whereby they pioneer new and better tech- nologies and products and set industry standards. Being the leader or pioneer of change in a high-velocity market is an aggressive, offensive strategy that includes rushing next-generation products to market ahead of rivals and being continually proactive in shaping the market to one’s own benefit. Although a lead-change strategy is best whenever the firm has the resources to pur- sue this approach, on occasion even the strongest firms in turbulent industries have to employ the react-to-the-market strategy and the anticipate-the-market strategy.

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An example turbulent, high-velocity market is the tablet computer, with more than 100 companies trying to emulate Apple’s iPad and tablet products. Sales of tablet computers exceeded 20 million units in 2010 and 60 million units in 2011. A version of Google’s Android operating system is now powering tablets, including Google’s Honeycomb system. Apple utilizes a lead-change strategy as one of the strongest firms in the turbulent computer tablet industry, with firms such as Samsung and Toshiba aggressively pursuing a react-to-change strat- egy. The first laptop computers running on Google’s Chrome OS were manufactured by Acer Inc. and Samsung Electronics and went on sale in mid-2011. Google is working with Verizon Wireless to ensure that Chrome laptops always stay online.

One strategy to compete in a turbulent industry is to acquire rivals, thus gaining economies of scale and improved efficiencies. For example, AT&T just acquired rival T-Mobile USA for $39 billion, creating the largest U.S. cellphone company, and Charles Schwab Corp. acquired online brokerage services provider OptionsXpress for $1 billion.

Means for Achieving Strategies Cooperation Among Competitors Strategies that stress cooperation among competitors are being used more. For collaboration be- tween competitors to succeed, both firms must contribute something distinctive, such as technol- ogy, distribution, basic research, or manufacturing capacity. But a major risk is that unintended transfers of important skills or technology may occur at organizational levels below where the deal was signed.25 Information not covered in the formal agreement often gets traded in the day- to-day interactions and dealings of engineers, marketers, and product developers. Firms often give away too much information to rival firms when operating under cooperative agreements! Tighter formal agreements are needed.

Perhaps the best example of rival firms in an industry forming alliances to compete against each other is the airline industry. Today there are three major alliances: Star, SkyTeam, and Oneworld, but other alliances are forming, such as the new trans-Atlantic joint venture among American Air, British Air, and Iberia Air formed by Oneworld. There is also a new trans-Pacific joint venture among American, Japan Air, United Continental, and All Nippon Air.

The idea of joining forces with a competitor is not easily accepted by Americans, who often view cooperation and partnerships with skepticism and suspicion. Indeed, joint ventures and cooperative arrangements among competitors demand a certain amount of trust if companies are to combat paranoia about whether one firm will injure the other. However, multinational firms are becoming more globally cooperative, and increasing numbers of domestic firms are joining forces with competitive foreign firms to reap mutual benefits. Kathryn Harrigan at Columbia University says, “Within a decade, most companies will be members of teams that compete against each other.” Once major rivals, Google’s YouTube and Vivendi SA’s Universal Music Group have formed a partnership called Vevo to provide a new music-video service. Google provides the technology and Universal Music provides the content, and both firms share the rev- enues. The two firms now operate the stand-alone site Vevo.com.

U.S. companies often enter alliances primarily to avoid investments, being more interested in re- ducing the costs and risks of entering new businesses or markets than in acquiring new skills. In con- trast, learning from the partner is a major reason why Asian and European firms enter into cooperative agreements. U.S. firms, too, should place learning high on the list of reasons to be cooperative with competitors. U.S. companies often form alliances with Asian firms to gain an understanding of their manufacturing excellence, but Asian competence in this area is not easily transferable. Manufacturing excellence is a complex system that includes employee training and involvement, integration with suppliers, statistical process controls, value engineering, and design. In contrast, U.S. know-how in technology and related areas can be imitated more easily. U.S. firms thus need to be careful not to give away more intelligence than they receive in cooperative agreements with rival Asian firms.

Joint Venture/Partnering Joint venture is a popular strategy that occurs when two or more companies form a tempo- rary partnership or consortium for the purpose of capitalizing on some opportunity. Often, the two or more sponsoring firms form a separate organization and have shared equity

154 Part 2 • Strategy formulation

ownership in the new entity. Other types of cooperative arrangements include research and development partnerships, cross-distribution agreements, cross-licensing agreements, cross-manufacturing agreements, and joint-bidding consortia. Facebook Inc. and Skype SA recently combined their communications services more closely under a new partnership that allows Facebook members to sign into Skype through their Facebook Connect account and then send text messages or set up voice chats and video chats with their Facebook friends from within Skype. The partnership puts pressure on Google because it links Skype’s 580 million registered users with Facebook’s 500 million members. For the first time ever, U.S. Internet users spent 41.1 billion minutes on Facebook in August 2010, surpassing Google’s 39.8 billion minutes.26

The world’s largest cellphone maker, Nokia Corp., recently formed a partnership with the world’s largest software company, Microsoft, whereby the Finnish company will receive bil- lions of dollars from Microsoft to develop and market smartphones using Microsoft’s operating system. Nokia still has the largest market share in the handset business but is losing ground. The partnership is designed to compete with Google’s Android mobile-phone operating system and with Apple Inc.’s iPhone. Nokia’s new smartphones will use Window Phone as their principal operating system, replacing its own Symbian software and Intel’s MeeGo operating system. About the Nokia-Microsoft partnership, Google executive Vic Gundrota said, “Two turkeys do not make an eagle.”

Joint ventures and cooperative arrangements are being used increasingly because they al- low companies to improve communications and networking, to globalize operations, and to minimize risk. Joint ventures and partnerships are often used to pursue an opportunity that is too complex, uneconomical, or risky for a single firm to pursue alone. Such business creations also are used when achieving and sustaining competitive advantage when an industry requires a broader range of competencies and know-how than any one firm can marshal. Kathryn Rudie Harrigan, summarizes the trend toward increased joint venturing:

In today’s global business environment of scarce resources, rapid rates of technologi- cal change, and rising capital requirements, the important question is no longer “Shall we form a joint venture?” Now the question is “Which joint ventures and cooperative arrangements are most appropriate for our needs and expectations?” followed by “How do we manage these ventures most effectively?”27

In a global market tied together by the Internet, joint ventures, and partnerships, alliances are proving to be a more effective way to enhance corporate growth than mergers and acquisi- tions.28 Strategic partnering takes many forms, including outsourcing, information sharing, joint marketing, and joint research and development. Many companies, such as Eli Lilly, now host partnership training classes for their managers and partners. There are today more than 10,000 joint ventures formed annually, more than all mergers and acquisitions. There are countless examples of successful strategic alliances, such as Internet coverage.

A major reason why firms are using partnering as a means to achieve strategies is glo- balization. Wal-Mart’s successful joint venture with Mexico’s Cifra is indicative of how a domestic firm can benefit immensely by partnering with a foreign company to gain substan- tial presence in that new country. Technology also is a major reason behind the need to form strategic alliances, with the Internet linking widely dispersed partners. The Internet paved the way and legitimized the need for alliances to serve as the primary means for corporate growth.

Striving to compete with Google, Microsoft and Facebook recently unveiled a plan to improve the results of Microsoft’s Bing search engine by including peoples’s social con- nections on Facebook. The sharing of personal data between Micorsoft and Facebook raises privacy concerns because the partnership gives Bing access to all public information about a Facebook user, including their friends’ names and photos. Bing powers both Microsoft searches (11.2 percent) and Yahoo searches (16.7 percent), but Google’s share of U.S. searches is 66.1 percent.

Evidence is mounting that firms should use partnering as a means for achieving strategies. However, the sad fact is that most U.S. firms in many industries—such as financial services,

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forest products, metals, and retailing—still operate in a merger or acquire mode to obtain growth. Partnering is not yet taught at most business schools and is often viewed within com- panies as a financial issue rather than a strategic issue. However, partnering has become a core competency, a strategic issue of such importance that top management involvement initially and throughout the life of an alliance is vital.29

Joint ventures among once rival firms are commonly being used to pursue strategies ranging from retrenchment to market development. Although ventures and partnerships are preferred over mergers as a means for achieving strategies, certainly they are not all suc- cessful. The good news is that joint ventures and partnerships are less risky for companies than mergers, but the bad news is that many alliances fail. There are countless examples of failed joint ventures. A few common problems that cause joint ventures to fail are as follows:

1. Managers who must collaborate daily in operating the venture are not involved in forming or shaping the venture.

2. The venture may benefit the partnering companies but may not benefit customers, who then complain about poorer service or criticize the companies in other ways.

3. The venture may not be supported equally by both partners. If supported unequally, prob- lems arise.

4. The venture may begin to compete more with one of the partners than the other.30

Six guidelines for when a joint venture may be an especially effective means for pursuing strategies are:31

• When a privately owned organization is forming a joint venture with a publicly owned organization; there are some advantages to being privately held, such as closed ownership; there are some advantages of being publicly held, such as access to stock issuances as a source of capital. Sometimes, the unique advantages of being privately and publicly held can be synergistically combined in a joint venture.

• When a domestic organization is forming a joint venture with a foreign company; a joint venture can provide a domestic company with the opportunity for obtaining local manage- ment in a foreign country, thereby reducing risks such as expropriation and harassment by host country officials.

• When the distinct competencies of two or more firms complement each other especially well.

• When some project is potentially very profitable but requires overwhelming resources and risks.

• When two or more smaller firms have trouble competing with a large firm. • When there exists a need to quickly introduce a new technology.

Merger/Acquisition Google acquired 48 companies in 2010 and is on pace to eclipse that number in 2011, as the firm seeks ways to boost revenue growth and compete more aggressively in social networking. That may be a record annual number of acquisitions for any company ever. Cisco had 23 acquisitions back in 2000, Microsoft had 18 in 2008, and Oracle had 13 in 2005, but 48 is unreal. Despite Google’s 48 acquisitions, the company’s stock price dropped 4 percent in 2010—even when the stock market was roaring back.

Merger and acquisition are two commonly used ways to pursue strategies. A merger occurs when two organizations of about equal size unite to form one enterprise. An acqui- sition occurs when a large organization purchases (acquires) a smaller firm, or vice versa. When a merger or acquisition is not desired by both parties, it can be called a takeover or hostile takeover. In contrast, if the acquisition is desired by both firms, it is termed a friendly merger. Most mergers are friendly. For example, two Japanese steel produc- ers, Nippon Steel Corp. and Sumitomo Metal Industries Ltd., recently merged in friendly fashion to form the world’s second largest steel producer behind ArcelorMittal. Canada’s Valeant Pharmaceuticals International recently made a hostile takeover bid of $5.7 billion for smaller rival Cephalon, or $73 per share, a 24.5 percent premium to Cephalon’s stock price of $58.

156 Part 2 • Strategy formulation

There were numerous examples in 2011 of hostile takeover attempts. For example, the French pharmaceutical giant Sanofi-Aventis SA recently launched an $18.5 billion hostile takeover bid for the U.S. biotech company Genzyme Corp. Sanofi has offered $69 per share for Genzyme, but analysts say that bid may have to increase to $85 to seal the deal.

Nasdaq, with help from IntercontinentalExchange (ICE), which operates a global futures exchange and over-the-counter (OTC) markets and derivatives clearing houses, plans to place a hostile takeover bid for the New York Stock Exchange (NYSE) Euronext. Any Nasdaq bid, how- ever, would face significant obstacles, including possible antitrust problems, since nearly every U.S. stock is listed on either the NYSE or Nasdaq. There has been a recent merger frenzy in the stock exchange business. Deutsche Boerse and NYSE Euronext desire to merge to create the world’s largest exchange operator in a deal worth $10.2 billion. There is speculation that Nasdaq might even merge with another international exchange, such as the London Stock Exchange (LSE). The LSE is eyeing a takeover of Nasdaq after recently merging with the Canadian TMX Group, which operates the Toronto and Montreal stock exchanges.

With hundreds of companies flush with excess cash, the year 2010 saw a 13 percent increase in mergers and acquisitions in the United States; 2011 is on pace to exceed that percentage as firms increasingly use mergers to quickly tap into new businesses and reach new markets, both top priorities as companies were previously hunkered down during the recession.

General Electric continues to acquire diverse firms, including its recent purchase of oil-and- gas equipment maker Dresser Inc. for $3 billion. Based in Dallas, Texas, about 60 percent of Dresser’s revenues come from outside the United States. General Electric desires to scale back its big finance business at GE Capital and beef up its industrial and infrastructure operations.

White knight is a term that refers to a firm that agrees to acquire another firm when that other firm is facing a hostile takeover by some company. For example, recently Palo Alto, California–based CV Thereapeutics Inc., a heart-drug maker, was fighting a hostile takeover bid by Japan’s Astellas Pharma. Then CVT struck a friendly deal to be acquired by Forest City, California–based Gilead Sciences at a higher price of $1.4 billion in cash. Gilead is known for its HIV drugs, so its move into the heart-drug business surprised many analysts.

Not all mergers are effective and successful. For example, even 12 months after PulteGroup recently bought rival Centex Corp. for $1.3 billion in stock, creating the largest home builder in the United States, PulteGroup’s profits are still negative and the company’s stock price is 30 percent lower than the week of the acquisition. PulteGroup’s dismal performance is in sharp contrast to rival firms such as Toll Brothers and Lennar Corp., whose stock price is up 22 per- cent during the same period. Many analysts say that PulteGroup’s acquisition of Centex was poorly timed and a mistake. So a merger between two firms can yield great benefits, but the price and reasoning must be right. Some key reasons why many mergers and acquisitions fail are provided in Table 5-5.

Among mergers, acquisitions, and takeovers in recent years, same-industry combina- tions have predominated. A general market consolidation is occurring in many industries, especially banking, insurance, defense, and health care, but also in pharmaceuticals, food, airlines, accounting, publishing, computers, retailing, financial services, and biotechnology. For example, There are many potential benefits of merging with or acquiring another firm, as indicated in Table 5-6.

Table 5-5 Key Reasons Why Many Mergers and Acquisitions Fail

• Integration difficulties

• Inadequate evaluation of target

• Large or extraordinary debt

• Inability to achieve synergy

• Too much diversification

• Managers overly focused on acquisitions

• Too large an acquisition

• Difficult to integrate different organizational cultures

• Reduced employee morale due to layoffs and relocations

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The volume of mergers completed annually worldwide is growing dramatically and exceeds $1 trillion. There are annually more than 10,000 mergers in the United States that total more than $700 billion. The proliferation of mergers is fueled by companies’ drive for market share, efficiency, and pricing power, as well as by globalization, the need for greater economies of scale, reduced regulation and antitrust concerns, the Internet, and e-commerce.

A leveraged buyout (LBO) occurs when a corporation’s shareholders are bought (hence buyout) by the company’s management and other private investors using borrowed funds (hence leverage).32 Besides trying to avoid a hostile takeover, other reasons for initiating an LBO are senior management decisions that particular divisions do not fit into an overall corporate strategy or must be sold to raise cash, or receipt of an attractive offering price. An LBO takes a corporation private.

Private-Equity Acquisitions As stock prices increased and companies became cash-rich in 2010–2012, private-equity firms such as Kohlberg Kravis Roberts (KKR) jumped aggressively back into the business of acquir- ing and selling firms. Private-equity firms have unleashed a wave of new initial public offer- ings (IPO), such as the IPO of Nielsen Holdings BV, the largest private-equity-backed IPO in the United States in five years. Apollo Global Management is a large private-equity firm that owns many companies. Some private-equity owned firms expected to go public soon include BankUnited Inc., Kinder Morgan Inc., and Toys “R” Us Inc.

The intent of virtually all private-equity acquisitions is to buy firms at a low price and sell them later at a high price, arguably just good business. Many if not most acquisitions in 2010–2012 were by large private-investment firms. For example, 3G Capital Management acquired Burger King Holdings for about $3.3 billion. CKE Restaurants, owner of the Carl’s Jr. and Hardee’s burger chains, was acquired by an affiliate of Apollo Management LLC for almost $700 million. Goldman Sachs’s private-equity arm acquired Apple American Group, the largest franchisee (269 restaurants) of Applebee’s Neighborhood Grill and Bar based in Independence, Ohio.

First Mover Advantages First mover advantages refer to the benefits a firm may achieve by entering a new market or developing a new product or service prior to rival firms.33 As indicated in Table 5-7, some advantages of being a first mover include securing access to rare resources, gaining new

Table 5-6 Potential Benefits of Merging With or Acquiring Another Firm

• To provide improved capacity utilization

• To make better use of the existing sales force

• To reduce managerial staff

• To gain economies of scale

• To smooth out seasonal trends in sales

• To gain access to new suppliers, distributors, customers, products, and creditors

• To gain new technology

• To reduce tax obligations

Table 5-7 Benefits of a Firm Being the First Mover

1. Secure access and commitments to rare resources

2. Gain new knowledge of critical success factors and issues

3. Gain market share and position in the best locations

4. Establish and secure long-term relationships with customers, suppliers, distributors, and investors

5. Gain customer loyalty and commitments

158 Part 2 • Strategy formulation

knowledge of key factors and issues, and carving out market share and a position that is easy to defend and costly for rival firms to overtake. First mover advantages are analogous to taking the high ground first, which puts one in an excellent strategic position to launch aggressive cam- paigns and to defend territory. Being the first mover can be especially wise when such actions (1) build a firm’s image and reputation with buyers, (2) produce cost advantages over rivals in terms of new technologies, new components, new distribution channels, and so on, (3) create strongly loyal customers, and (4) make imitation or duplication by a rival hard or unlikely.34

To sustain the competitive advantage gained by being the first mover, a firm needs to be a fast learner. There are, however, risks associated with being the first mover, such as unexpected and unanticipated problems and costs that occur from being the first firm doing business in the new market. Therefore, being a slow mover (also called fast follower or late mover) can be ef- fective when a firm can easily copy or imitate the lead firm’s products or services. If technology is advancing rapidly, slow movers can often leapfrog a first mover’s products with improved second-generation products. However, slow movers often are relegated to relying on the first mover being a slow mover and making strategic and tactical mistakes. This situation does not occur often, so first mover advantages clearly offset the first mover disadvantages most of the time. Apple Inc. has always been a good example of a first mover firm.

Nokia, the world’s largest mobile phone maker by units, has been a late mover in the smart- phone industry, following Apple, by introducing the Nokia N8 smartphone. The N8 is a sleek phone with a 12-megapixel camera and high-definition video recording feature. Also a late mover, Hewlett-Packard (H-P) introduced its first tablet computer and first smartphone in 2011, well behind Apple and Google. Apple sold 14 million iPad computers before the H-P announce- ment. Sales of iPads are forecasted to reach 24.1 million in 2011 and eclipse 44 million annually by 2015 according to Forrester Research.

Based in Santa Clara, California, Intel is a first mover firm in terms of introducing new production processes sooner than competitors. Intel is investing $7 billion between 2011 and 2014 to upgrade its manufacturing plants in the United States and build a new research facility in Oregon. Intel is moving beyond PCs into chips for smartphones and other products.

First mover advantages tend to be greatest when competitors are roughly the same size and possess similar resources. If competitors are not similar in size, then larger competitors can wait while others make initial investments and mistakes, and then respond with greater effectiveness and resources.

Outsourcing Business-process outsourcing (BPO) involves companies taking over the functional operations, such as human resources, information systems, payroll, accounting, customer service, and even marketing of other firms. Companies are choosing to outsource their functional operations more and more for several reasons: (1) it is less expensive, (2) it allows the firm to focus on its core businesses, and (3) it enables the firm to provide better services. Other advantages of outsourc- ing are that the strategy (1) allows the firm to align itself with “best-in-world” suppliers who fo- cus on performing the special task, (2) provides the firm flexibility should customer needs shift unexpectedly, and (3) allows the firm to concentrate on other internal value chain activities criti- cal to sustaining competitive advantage. BPO is a means for achieving strategies that are similar to partnering and joint venturing. The worldwide BPO market exceeds $173 billion.

Many firms, such as Dearborn, Michigan–based Visteon Corp. and J.P. Morgan Chase & Co., outsource their computer operations to IBM, which competes with firms such as Electronic Data Systems and Computer Sciences Corp. in the computer outsourcing business. 3M Corp. is outsourcing all of its manufacturing operations to Flextronics International Ltd. of Singapore or Jabil Circuit in Florida. 3M is also outsourcing all design and manufacturing of low-end stan- dardized volume products by building a new design center in Taiwan.

U.S. and European companies for more than a decade have been outsourcing their manu- facturing, tech support, and back-office work, but most insisted on keeping research and devel- opment activities in-house. However, an ever-growing number of firms today are outsourcing their product design to Asian developers. China and India are becoming increasingly important suppliers of intellectual property. For companies that include Hewlett-Packard, PalmOne, Dell, Sony, Apple, Kodak, Motorola, Nokia, Ericsson, Lucent, Cisco, and Nortel, the design of per- sonal computers and cameras is mostly outsourced to China and India.

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Companies pay about $68 billion annually in outsourcing operations to other firms, but the details of what work to outsource, to whom, where, and for how much can challenge even the biggest, most sophisticated companies.35 And some outsourcing deals do not work out, such as the J.P. Morgan Chase deal with IBM and Dow Chemical’s deal with Electronic Data Systems. Both outsourcing deals were abandoned after several years. Lehman Brothers Holdings and Dell Inc. both recently reversed decisions to move customer call centers to India after a customer rebellion. India has become a booming place for outsourcing. A recent Wall Street Journal ar- ticle reported that roughly 85 percent of all Americans believe “outsourcing of production and manufacturing work to foreign countries is a major reason the U.S. economy is struggling and more people are not being hired.”36 However, organizations that outsource are seeking to realize benefits or address the following issues:37

• Cost savings — Access lower wages in foreign countries. • Focus on core business — Focus resources on developing the core business rather than be-

ing distracted by other functions. • Cost restructuring — Outsourcing changes the balance of fixed costs to variable costs by

moving the firm more to variable costs. Outsourcing also makes variable costs more pre- dictable.

• Improve quality — Improve quality by contracting out various business functions to spe- cialists.

• Knowledge — Gain access to intellectual property and wider experience and knowledge. • Contract — Gain access to services within a legally binding contract with financial penal-

ties and legal redress. This is not the case with services performed internally. • Operational expertise — Gain access to operational best practice that would be too difficult

or time consuming to develop in-house. • Access to talent — Gain access to a larger talent pool and a sustainable source of skills,

especially science and engineering. • Catalyst for change — Use an outsourcing agreement as a catalyst for major change that

cannot be achieved alone. • Enhance capacity for innovation — Use external knowledge to supplement limited in-

house capacity for product innovation. • Reduce time to market — Accelerate development and/or production of a product through

additional capability brought by the supplier. • Risk management — Manage risk by partnering with an outside firm. • Tax benefit — Capitalize on tax incentives to locate manufacturing plants to avoid high

taxes in various countries.

Strategic Management in Nonprofit and Governmental Organizations Nonprofit organizations are basically just like for-profit companies except for two major differences: 1) nonprofits do not pay taxes and 2) nonprofits do not have shareholders to provide capital. In virtually all other ways, nonprofits are just like for-profits. Nonprofits have competitors that want to put them out of business. Nonprofits have employees, custom- ers, creditors, suppliers, and distributors as well as financial budgets, income statements, balance sheets, cash flow statements, and so on. Nonprofit organizations embrace strategic planning just as much as for-profit firms, and perhaps even more, since equity capital is not an alternative source of financing.

The strategic-management process is being used effectively by countless nonprofit and governmental organizations, such as the Girl Scouts, Boy Scouts, the Red Cross, chambers of commerce, educational institutions, medical institutions, public utilities, libraries, government agencies, and churches. The nonprofit sector, surprisingly, is by far America’s largest employer. Many nonprofit and governmental organizations outperform private firms and corporations on innovativeness, motivation, productivity, and strategic management.

Compared to for-profit firms, nonprofit and governmental organizations may be totally de- pendent on outside financing. Especially for these organizations, strategic management provides an excellent vehicle for developing and justifying requests for needed financial support.

160 Part 2 • Strategy formulation

Religious Facilities A recent Wall Street Journal article reveals that the number of religious facilities having to close their doors is surging as many borrowed too much and built too big during boom times.38 Chris Macke, a real-estate strategist at CoStar, recently said, “religious organizations may be subject to the laws of God but they are also subject to the laws of economics.” Religious de- nominations of all kinds have suffered in recent years from consumer hardships, including high unemployment and underemployment, which translates into less money in the offering plate and declining attendance.

Six states in particular had 15 or more religious facilities foreclosed upon in the 2006–2010 period: California (29), Michigan (23), Florida (23), Georgia (19), Texas (17), and Ohio (15). Religious facilities are like businesses in many ways, including: 1) they can be foreclosed upon if their finances fall into disarray, and 2) they need effective strategic planning.

Educational Institutions Educational institutions are more frequently using strategic-management techniques and con- cepts. Richard Cyert, former president of Carnegie Mellon University, said, “I believe we do a far better job of strategic management than any company I know.” Population shifts nationally from the Northeast and Midwest to the Southeast and West are but one factor causing trauma for educational institutions that have not planned for changing enrollments. Ivy League schools in the Northeast are recruiting more heavily in the Southeast and West. This trend represents a significant change in the competitive climate for attracting the best high school graduates each year.

Online college degrees are common place and represent a threat to traditional colleges and universities. “You can put the kids to bed and go to law school,” says Andrew Rosen, chief oper- ating officer of Kaplan Education Centers, a subsidiary of the Washington Post Company.

Many American colleges and universities have now established campuses outside the United States. For example, Yale University and the National University of Singapore will establish a joint campus in Singapore in 2013. The institution will be Singapore’s first liberal-arts college and Yale’s first campus outside the Ivy League institution’s New Haven, Connecticut home.

Medical Organizations The $200 billion U.S. hospital industry is experiencing declining margins, excess capacity, bu- reaucratic overburdening, poorly planned and executed diversification strategies, soaring health care costs, reduced federal support, and high administrator turnover. The seriousness of this problem is accented by a 20 percent annual decline in use by inpatients nationwide. Declining occupancy rates, deregulation, and accelerating growth of health maintenance organizations, preferred provider organizations, urgent care centers, outpatient surgery centers, diagnostic cen- ters, specialized clinics, and group practices are other major threats facing hospitals today. Many private and state-supported medical institutions are in financial trouble as a result of traditionally taking a reactive rather than a proactive approach in dealing with their industry.

Hospitals—originally intended to be warehouses for people dying of tuberculosis, smallpox, cancer, pneumonia, and infectious diseases—are creating new strategies today as advances in the diagnosis and treatment of chronic diseases are undercutting that earlier mission. Hospitals are beginning to bring services to the patient as much as bringing the patient to the hospital; health care is more and more being concentrated in the home and in the residential community, not on the hospital campus. Chronic care will require day-treatment facilities, electronic monitoring at home, user-friendly ambulatory services, decentralized service networks, and laboratory testing. A successful hospital strategy for the future will require renewed and deepened collaboration with physicians, who are central to hospitals’ well-being, and a reallocation of resources from acute to chronic care in home and community settings.

Current strategies being pursued by many hospitals include creating home health services, establishing nursing homes, and forming rehabilitation centers. Backward integration strategies that some hospitals are pursuing include acquiring ambulance services, waste disposal services, and diagnostic services. Millions of persons annually research medical ailments online, which is causing a dramatic shift in the balance of power between doctor, patient, and hospitals. The

ChaPter 5 • StrategieS in aCtion 161

number of persons using the Internet to obtain medical information is skyrocketing. A motivated patient using the Internet can gain knowledge on a particular subject far beyond his or her doctor’s knowledge, because no person can keep up with the results and implications of billions of dollars’ worth of medical research reported weekly. Patients today often walk into the doctor’s office with a file folder of the latest articles detailing research and treatment options for their ailments.

Governmental Agencies and Departments Federal, state, county, and municipal agencies and departments, such as police departments, chambers of commerce, forestry associations, and health departments, are responsible for formulating, implementing, and evaluating strategies that use taxpayers’ dollars in the most cost-effective way to provide services and programs. Strategic-management concepts are generally required and thus widely used to enable governmental organizations to be more effective and efficient.

Strategists in governmental organizations operate with less strategic autonomy than their counterparts in private firms. Public enterprises generally cannot diversify into unrelated busi- nesses or merge with other firms. Governmental strategists usually enjoy little freedom in altering the organizations’ missions or redirecting objectives. Legislators and politicians often have direct or indirect control over major decisions and resources. Strategic issues get discussed and debated in the media and legislatures. Issues become politicized, resulting in fewer strategic choice alter- natives. There is now more predictability in the management of public sector enterprises.

Government agencies and departments are finding that their employees get excited about the opportunity to participate in the strategic-management process and thereby have an effect on the organization’s mission, objectives, strategies, and policies. In addition, government agencies are using a strategic-management approach to develop and substantiate formal requests for ad- ditional funding.

Strategic Management in Small Firms The reason why “becoming your own boss” has become a national obsession is that entrepre- neurs are America’s role models. Almost everyone wants to own a business—from teens and college students, who are signing up for entrepreneurial courses in record numbers, to those over age 65, who are forming more companies every year.

As hundreds of thousands of people have been laid off from work in the last two years, many of these individuals have started small businesses. The Wall Street Journal recently pro- vided a 10-page article on how to be a successful entrepreneur.39 Not only laid off employees but also college graduates are seeking more and more to open their own businesses.40

Strategic management is vital for large firms’ success, but what about small firms? The strategic-management process is just as vital for small companies. From their inception, all or- ganizations have a strategy, even if the strategy just evolves from day-to-day operations. Even if conducted informally or by a single owner/entrepreneur, the strategic-management process can significantly enhance small firms’ growth and prosperity. Because an ever-increasing number of men and women in the United States are starting their own businesses, more individuals are becoming strategists. Widespread corporate layoffs have contributed to an explosion in small businesses and new ideas.

Numerous magazine and journal articles have focused on applying strategic-management concepts to small businesses. A major conclusion of these articles is that a lack of strategic- management knowledge is a serious obstacle for many small business owners. Other problems often encountered in applying strategic-management concepts to small businesses are a lack of both sufficient capital to exploit external opportunities and a day-to-day cognitive frame of ref- erence. Research also indicates that strategic management in small firms is more informal than in large firms, but small firms that engage in strategic management outperform those that do not.

Special Note to Students There are numerous alternative strategies that could benefit any firm, but your strategic man- agement case analysis should result in specific recommendations that you decide will best pro- vide the firm competitive advantages. Since company recommendations with costs comprise

162 Part 2 • Strategy formulation

the most important pages/slides in your case project, introduce bits of that information early in the presentation as relevant supporting material is presented to justify your expenditures. Your recommendations page(s) itself should therefore be a summary of suggestions mentioned throughout your paper or presentation, rather than being a surprise shock to your reader or audience. You may even want to include with your recommendations insight as to why certain other feasible strategies were not chosen for implementation. That information too should be anchored in the notion of competitive advantage and disadvantage with respect to perceived costs and benefits.

Conclusion The main appeal of any managerial approach is the expectation that it will enhance organiza- tional performance. This is especially true of strategic management. Through involvement in strategic-management activities, managers and employees achieve a better understanding of an organization’s priorities and operations. Strategic management allows organizations to be effi- cient, but more important, it allows them to be effective. Although strategic management does not guarantee organizational success, the process allows proactive rather than reactive decision making. Strategic management may represent a radical change in philosophy for some organi- zations, so strategists must be trained to anticipate and constructively respond to questions and issues as they arise. The strategies discussed in this chapter can represent a new beginning for many firms, especially if managers and employees in the organization understand and support the plan for action.

Key terms and Concepts Acquisition (p. 155) Backward Integration (p. 139) Balanced Scorecard (p. 135) Bankruptcy (p. 146) Business-Process Outsourcing (BPO) (p. 158) Combination Strategy (p. 135) Cooperative Arrangements (p. 154) Cost Leadership (p. 148) De-integration (p. 139) Differentiation (p. 149) Diversification Strategies (p. 143) Divestiture (p. 147) Financial Objectives (p. 133) First Mover Advantages (p. 157) Focus (p. 149) Forward Integration (p. 138) Franchising (p. 138) Friendly Merger (p. 155) Generic Strategies (p. 148) Horizontal Integration (p. 140)

Hostile Takeover (p. 155) Integration Strategies (p. 138) Intensive Strategies (p. 141) Joint Venture (p. 153) Leveraged Buyout (LBO) (p. 157) Liquidation (p. 148) Long-Term Objectives (p. 132) Market Development (p. 141) Market Penetration (p. 141) Merger (p. 155) Product Development (p. 142) Related Diversification (p. 143) Retrenchment (p. 146) Strategic Objectives (p. 133) Takeover (p. 155) Turbulent, High-Velocity Markets (p. 152) Unrelated Diversification (p. 143) Vertical Integration (p. 138) White Knight (p. 156)

issues for review and Discussion 1. List and describe six major benefits that a firm may reap

from outsourcing some of its operations. 2. How are for-profit firms different from nonprofit firms in

terms of business? What are the implications for strategic planning?

3. If the CEO of a beverage company such as Dr Pepper/ Snapple asked you whether backward or forward integra- tion would be better for the firm, how would you respond?

4. In order of importance, list six “characteristics of objectives.”

ChaPter 5 • StrategieS in aCtion 163

5. In order of importance, list six “benefits of objectives.” 6. Called de-integration, there appears to be a growing

trend for firms to become less forward integrated. Discuss why.

7. Called de-integration, there appears to be a growing trend for firms to become less backward integrated. Discuss why.

8. If a company has $1 million to spend on a new strategy and is considering market development versus product development, what determining factors would be most im- portant to consider?

9. What conditions, externally and internally, would be desired/necessary for a firm to diversify?

10. Could a firm simultaneously pursue focus, differentiation, and cost leadership? Should firms do that? Discuss.

11. There is a growing trend of increased collaboration among competitors. List the benefits and drawbacks of this practice.

12. List four major benefits of forming a joint venture to achieve desired objectives.

13. List six major benefits of acquiring another firm to achieve desired objectives.

14. List five reasons why many merger/acquisitions histori- cally have failed.

15. Can you think of any reasons why not-for-profit firms would benefit less from doing strategic planning than for- profit companies?

16. Discuss how important it is for a college football or bas- ketball team to have a good game plan for the big rival game this coming weekend. How much time and effort do you feel the coaching staff puts into developing that game plan? Why is such time and effort essential?

17. Why are more than 60 percent of Fortune 500 firms head- quartered in Wilmington, Delaware?

18. Define and give a hypothetical example of a “white knight” in the fast-food industry.

19. How does strategy formulation differ for a small versus a large organization? How does it differ for a for-profit ver- sus a nonprofit organization?

20. Give recent examples of market penetration, market de- velopment, and product development.

21. Give recent examples of forward integration, backward integration, and horizontal integration.

22. Give recent examples of related and unrelated diversifica- tion.

23. Give recent examples of joint venture, retrenchment, divestiture, and liquidation.

24. Do you think hostile takeovers are unethical? Why or why not?

25. What are the major advantages and disadvantages of diversification?

26. What are the major advantages and disadvantages of an integrative strategy?

27. How does strategic management differ in for-profit and nonprofit organizations?

28. Why is it not advisable to pursue too many strategies at once?

29. Consumers can purchase tennis shoes, food, cars, boats, and insurance on the Internet. Are there any products today than cannot be purchased online? What is the implication for traditional retailers?

30. What are the pros and cons of a firm merging with a rival firm?

31. Compare and contrast financial objectives with strategic objectives. Which type is more important in your opinion? Why?

32. Diagram a two-division organizational chart that includes a CEO, COO, CIO, CSO, CFO, CMO, HRM, R&D, and two division presidents. Hint: Division presidents report to the COO.

33. How do the levels of strategy differ in a large firm versus a small firm?

34. List 11 types of strategies. Give a hypothetical example of each strategy listed.

35. Discuss the nature of as well as the pros and cons of a “friendly merger” versus “hostile takeover” in acquiring another firm. Give an example of each.

36. Define and explain “first mover advantages.” 37. Define and explain “outsourcing.” 38. What strategies are best for turbulent, high-velocity

markets?

notes 1. John Byrne, “Strategic Planning—It’s Back,”

BusinessWeek, August 26, 1996, 46. 2. Steven C. Brandt, Strategic Planning in Emerging

Companies (Reading, MA: Addison-Wesley, 1981). Reprinted with permission of the publisher.

3. R. Kaplan and D. Norton, “Putting the Balanced Scorecard to Work,” Harvard Business Review, September–October, 1993, 147.

4. F. Hansen and M. Smith, “Crisis in Corporate America: The Role of Strategy,” Business Horizons (January– February 2003, 9.

5. Adapted from F. R. David, “How Do We Choose Among Alternative Growth Strategies?” Managerial Planning 33, no. 4 (January–February 1985): 14–17, 22.

6. Ibid. 7. Kenneth Davidson, “Do Megamergers Make Sense?”

Journal of Business Strategy 7, no. 3 (Winter 1987): 45. 8. David, “How Do We Choose.” 9. Ibid. 10. Ibid. 11. Bruce Horovitz, “Marketing Trends Popping Up in 2011,”

USA Today, January 24, 2011, B1–B2. 12. Bruce Horovitz, “Marketing Trends Popping Up in 2011,”

USA Today, January 24, 2011, B1–B2. 13. David, “How Do we Choose.” 14. Arthur Thompson Jr., A. J. Strickland III, and John

Gamble, Crafting and Executing Strategy: Text and Readings (New York: McGraw-Hill/Irwin, 2005, 241.

164 Part 2 • Strategy formulation

15. Michael E. Porter, Competitive Strategy: Techniques for Analyzing Industries and Competitors (New York: Free Press, 1980, 53–57, 318–319.

16. Sheila Muto, “Seeing a Boost, Hospitals Turn to Retail Stores,” Wall Street Journal, November 7, 2001, B1, B8.

17. David, “How Do We Choose.” 18. Ibid. 19. Ibid. 20. Ibid. 21. Michael Porter, Competitive Advantage (New York:

Free Press, 1985), 97. Also, Arthur Thompson Jr., A. J. Strickland III, and John Gamble, Crafting and Executing Strategy: Text and Readings (New York: McGraw-Hill/ Irwin, 2005), 117.

22. Arthur Thompson Jr., A. J. Strickland III, and John Gamble, Crafting and Executing Strategy: Text and Readings (New York: McGraw-Hill/Irwin, 2005), 125–126.

23. Porter, Competitive Advantage, 160–162. 24. Thompson, Strickland, and Gamble, 129–130. 25. Ibid., 134. 26. Gary Hamel, Yves Doz, and C. K. Prahalad, “Collaborate

with Your Competitors—and Win,” Harvard Business Review 67, no. 1 (January–February 1989): 133.

27. Scott Morrison, “Facebook, Skype Ponder Alliance,” Wall Street Journal, September 30, 2010, B4.

28. Kathryn Rudie Harrigan, “Joint Ventures: Linking for a Leap Forward,” Planning Review 14, no. 4 (July–August 1986): 10.

29. Matthew Schifrin, “Partner or Perish,” Forbes (May 21, 2001): 26.

30. Ibid., 28. 31. Ibid., 32.

32. Steven Rattner, “Mergers: Windfalls or Pitfalls?” Wall Street Journal, October 11, 1999, A22; Nikhil Deogun, “Merger Wave Spurs More Stock Wipeouts,” Wall Street Journal, November 29, 1999, C1.

33. Joel Millman, “Mexican Mergers/Acquisitions Triple from 2001,” Wall Street Journal, December 27, 2002, A2.

34. Robert Davis, “Net Empowering Patients,” USA Today, July 14, 1999, 1A.

35. M. J. Gannon, K. G. Smith, and C. Grimm, “An Organizational Information-Processing Profile of First Movers,” Journal of Business Research 25 (1992): 231–241; M. B. Lieberman and D. B. Montgomery, “First Mover Advantages,” Strategic Management Journal 9 (Summer 1988): 41–58.

36. Scott Thurm, “Behind Outsourcing: Promise and Pitfalls,” Wall Street Journal, February 26, 2007, B3.

37. Louise Radnofsky and Jim Carlton, “Recession-Weary Americans Sour on Free Trade,” Wall Street Journal, October 4, 2010, A2.

38. http://en.wikipedia.org/wiki/Outsourcing. Also, R. Gareiss, “Analyzing The Outsourcers,” Information Week, Nov. 18, 2002; D.W. Drezner, “The Outsourcing Bogeyman,” 2004, www.foreignaffairs.org; P. Engardio, (2006). “Outsourcing: Job Killer or Innovation Boost?” Business Week, 2006; Justin Chakma, Jeff L. Calcagno, Ali Behbahani, and Shawn Moitahedian, “Is it Virtuous to be Virtual? The VC Viewpoint.” Nature Biotechnology 27, no. 10 (October 2009).

39. Shelly Banjo, “Churches Find End is Nigh,” Wall Street Journal, January 25, 2011, A3.

40. Kelly Spors, “So, You Want to Be an Entrepreneur,” Wall Street Journal, February 28, 2009, R1.

Current readings Adegbesan, J. Adetunji, and Matthew J. Higgins. “The Intra-

Alliance of Value Created Through Collaboration.” Strategic Management Journal 32, no. 2 (February 2011): 187–211.

Bruton, Garry D., Igor Filatotchev, Salim Chahine, and Mike Wright. “Governance, Ownership Structure, and Performance of IPO Firms: The Impact of Different Types of Private Equity Investors and Institutional Environments.” Strategic Management Journal 31, no. 5 (May 2010): 491–509.

Cedergren, Stefan, Anders Wall, and Christer Norstrom. “Evaluation of Performance in a Product Development Context.” Business Horizons 53, no. 4 (July–August 2010): 359–370.

Combs, James G., David J. Ketchen Jr., Christopher L. Shook, and Jeremy C. Short. “Antecedents and Consequences of Franchising: Past Accomplishments and Future Challenges.” Journal of Management 37, no. 1 (January 2011): 99–126.

Datta, Deepak K., James P. Guthrie, Dynah Basuil, and Alankrita Pandey. “Causes and Effects of Employee Downsizing: A Review and Synthesis.” Journal of Management 36, no. 1 (January 2010): 281–348.

David, Parthiban, Jonathan P. O’Brien, Toru Yoshikawa, and Andrew Delios. “Do Shareholders or Stakeholders Appropriate the Rents from Corporate Diversification? The Influence of Ownership Structure.” The Academy of Management Journal 53, no. 3 (June 2010): 636–648.

Graebner, Melissa E., Kathleen M. Eisenhardt, and Philip T. Roundy. “Success and Failure in Technology Acquisitions: Lessons for Buyers and Sellers.” The Academy of Management Perspectives 24, no. 3 (August 2010): 73–92.

Kaplan, Robert S., David P. Norton, and Bjarne Rugelsjoen. “Managing Alliances with the Balanced Scorecard.” Harvard Business Review, January–February 2010, 114–124.

Kumar, M. V. Shyam. “Are Joint Ventures Positive Sum Games? The Relative Effects of Cooperative and Noncooperative Behavior.” Strategic Management Journal 32, no. 1 (January 2011): 32–54.

Lee, Gwendolyn K., and Marvin Lieberman. “Acquisition vs. Internal Development As Modes of Market Entry.” Strategic Management Journal 31, no. 2 (February 2010): 140–158.

ChaPter 5 • StrategieS in aCtion 165

Lansiluoto, Aapo, and Marko Jarvenpaa. “Greening the Balanced Scorecard.” Business Horizons 53, no. 4 (July–August 2010): 385–396.

Martin, John A., and Kevin J. Davis. “Learning of Hubris? Why CEOs Create Less Value in Successive Acquisitions.” The Academy of Management Perspectives 24, no. 1 (February 2010): 79.

Rawley, Evan. “Diversification, Coordination Costs, and Organizational Rigidity: Evidence From Microdata.” Strategic Management Journal 31, no. 8 (August 2010): 873–891.

Reitzig, Markus, and Stefan Wagner. “The Hidden Costs of Outsourcing: Evidence From Patent Data.” Strategic Management Journal 31, no. 11 (November 2010): 1183–1201.

Salomon, Robert, and Byungchae Jin. “Do Leading or Lagging Firms Learn More From Exporting?” Strategic Management Journal 31, no. 10 (October 2010): 1088–1113.

Siegel, Donald S., and Kenneth L. Simons. “Assessing the Effects of Mergers and Acquisitions on Firm

Performance, Plant Productivity, and Workers: New Evidence From Matched Employer-Employee Data.” Strategic Management Journal 31, no. 8 (August 2010): 903–916.

Upson, John W., and Annette L. Ranft. “When Strategies Collide: Divergent Multipoint Strategies Within Competitive Triads.” Business Horizons 53, no. 1 (January–February 2010): 49–58.

Yu, Jifeng, Brett Anitra Gilbert, and Benjamin M. Oviatt. “Effects of Alliances, Time, and Network Cohesion on the Initiation of Foreign Sales by New Ventures.” Strategic Management Journal 32, no. 4 (April 2011): 424–446.

Wassmer, Ulrich. “Alliance Portfolios: A Review and Research Agenda.” Journal of Management 36, no. 1 (January 2010): 141–171.

Wassmer, Ulrich, Pierre Dussauge, and Marcel Planellas. “How to Manage Alliances Better Than One at a Time.” MIT Sloan Management Review 51, no. 3 (Spring 2010): 77–84.

AssurAnce of LeArning exercises

Assurance of Learning Exercise 5A

Develop Hypothetical Disney Strategies Purpose Table 5-4 identifies, defines, and exemplifies 11 key types of strategies available to firms. This exer- cise will give you practice formulating possible strategies within each broad category.

Instructions

Step 1 On a clear sheet of paper, develop an 11 x 2 matrix where two Disney divisions are along the top and the 11 Table 5-4 strategies are along the left side of your paper. In other words, along the top you will have any two of the following five captions: 1) Media Networks, 2) Parks & Resorts, 3) Studio Entertainment, 4) Consumer Products; and 5) Interactive Media, and along the left side of your paper, simply write the basic Table 5-4 strategy types as described in the chapter.

Step 2 Review the text material related to Table 5-4. Also, review the Disney divisional information provided in both the company Annual Report and Form 10K.

Step 3 In each of the 22 cells within your 11 x 2 matrix, write in a hypothetical strategy for the respective business segment indicated.

Assurance of Learning 5B

Evaluate Disney Divisions in Terms of Porter’s Strategies Purpose Figure 5-3 and associated narrative describe Porter’s five generic strategies. Disney has five business segments. This exercise will give you practice assessing the degree or extent that various segments or divisions of a business utilize or follow Porter’s generic strategies.

166 Part 2 • Strategy formulation

Instructions

Step 1 On a clear sheet of paper, develop a 5 × 5 matrix where the five Disney divisions are along the top and the five Porter strategies are along the left side of your paper. In other words, along the top you will have the captions 1) Media Networks, 2) Parks & Resorts, 3) Studio Entertainment, 4) Consumer Products; and 5) Interactive Media and along the left side of your paper simply write Type 1, Type 2, Type 3, Type 4, and Type 5 that refer to Porter’s basic strategy types as described in the chapter.

Step 2 Review the text material that explains Porter’s five strategies. Also, review the Disney divi- sional information provided in the company Annual Report and Form 10K as well as in the Cohesion Case.

Step 3 In each of the 25 cells within your 5 × 5 matrix, write the word High, Medium, or Low to indicate the extent or degree that the respective Disney division utilizes or follows the respective Porter strategy.

Step 4 Write a one to two page Executive Summary that reveals your rationale for your assigned High, Medium, and Low assessments, as well as your overall evaluation of the effectiveness of the Disney strategy—particularly in light of the conditions listed in the chapter for each Porter strategy in terms of when it is most attractive.

Step 5 In your 5 × 5 matrix, consider adding a sixth row along the bottom to indicate what grade (A, B, C, D, or F) you would give each Disney segment for their overall strategy formulation and implementation efforts.

Assurance of Learning Exercise 5C

What Strategies Should Disney Pursue in 2013? Purpose In performing strategic management case analysis, you can find information about the respective company’s actual and planned strategies. Comparing what is planned versus what you recommend is an important part of case analysis. Do not recommend what the firm actually plans, unless in-depth analysis of the situation reveals those strategies to be best among all feasible alternatives. This exer- cise gives you experience conducting library and Internet research to determine what Disney is doing in 2012 and should do in 2013.

Instructions

Step 1 Look up DIS using the websites provided in Table 4-5. Find some recent articles about Disney. Also review recent news releases at the DIS website.

Step 2 Summarize your findings in a three-page report entitled “My Thoughts on Strategies Being Pursued by Disney in 2013.”

Assurance of Learning Exercise 5D

Examine Strategy Articles Purpose Strategy articles can be found weekly in journals, magazines, and newspapers. By reading and studying strategy articles, you can gain a better understanding of the strategic-management process. Several of the best journals in which to find corporate strategy articles are Advanced Management Journal, Business Horizons, Long Range Planning, Journal of Business Strategy, and Strategic Management Journal. These journals are devoted to reporting the results of empiri- cal research in management. They apply strategic-management concepts to specific organizations and industries. They introduce new strategic-management techniques and provide short case stud- ies on selected firms.

Other good journals in which to find strategic-management articles are Harvard Business Review, Sloan Management Review, California Management Review, Academy of Management Review, Academy of Management Journal, Academy of Management Executive, Journal of Management, and Journal of Small Business Management.

ChaPter 5 • StrategieS in aCtion 167

In addition to journals, many magazines regularly publish articles that focus on business strate- gies. Several of the best magazines in which to find applied strategy articles are Dun’s Business Month, Fortune, Forbes, BusinessWeek, Inc., and Industry Week. Newspapers such as USA Today, Wall Street Journal, New York Times, and Barrons cover strategy events when they occur—for example, a joint venture announcement, a bankruptcy declaration, a new advertising campaign start, acquisition of a company, divestiture of a division, a chief executive officer’s hiring or firing, or a hostile takeover attempt.

In combination, journal, magazine, and newspaper articles can make the strategic-management course more exciting. They allow current strategies of for-profit and nonprofit organizations to be identified and studied.

Instructions

Step 1 Go to your college library and find a recent journal article that focuses on a strategic- management topic. Select your article from one of the journals listed previously, not from a magazine. Copy the article and bring it to class.

Step 2 Give a 3-minute oral report summarizing the most important information in your article. Include comments giving your personal reaction to the article. Pass your article around in class.

Assurance of Learning Exercise 5E

Classify Some Year 2011 Strategies Purpose This exercise can improve your understanding of various strategies by giving you experience classify- ing strategies. This skill will help you use the strategy-formulation tools presented later. Consider the following sixteen actual year-2011 strategies by various firms:

1. General Electric sold its NBC Universal division to Comcast for $6.5 billion. 2. Vision Airlines added more than 40 new cities to its flight destination portfolio. 3. J.C. Penney closed many of its stores, outlets, call centers, and its catalog business. 4. Citigroup sold its EMI Group Ltd. music company. 5. Nestle S.A. acquired CM&D Pharma Ltd., the first move by Nestle to sell foods that target

diseases. 6. Caterpillar recently acquired Bucyrus International, another mining equipment maker. 7. Limited Brands opened its first Victoria’s Secret in Canada. 8. Wal-Mart opened 40 new supercenters in Canada. 9. The top four advertisers (in order) during Super Bowl XLV were Anheuser-Busch (InBev),

PepsiCo, General Motors, and Paramount Pictures, each having at least five 30-second ads. 10. Grocery-store chain SuperValu Inc. is closing underperforming stores and laying off

employees. 11. General Motors entered the entertainment business by producing the “Inside the Vault” televi-

sion series. 12. Caesars Entertainment opens its first noncasino hotel in Asia. 13. AOL laid off 20 percent of its work force in mid-2011. 14. Wal-Mart’s 40 new Express stores opened at a cost of $1.2 million each; each store has a

pharmacy, grocery section, 75 parking spaces, and three or four checkouts. 15. Dell Inc. spent $1 billion to move away from its PC focus to providing cloud-computing

services. 16. Siemens sold its Osram lighting unit, which had generated $6.6 billion in 2010.

Instructions

Step 1 On a separate sheet of paper, number from 1 to 16. These numbers correspond to the strate- gies described.

Step 2 What type of strategy best describes the sixteen actions cited? Indicate your answers. Step 3 Exchange papers with a classmate, and grade each other’s paper as your instructor gives the

right answers.

168 Part 2 • Strategy formulation

Assurance of Learning Exercise 5F

How Risky Are Various Alternative Strategies? Purpose This exercise focuses on how risky various alternative strategies are for organizations to pursue. Different degrees of risk are based largely on varying degrees of externality, defined as movement away from present business into new markets and products. In general, the greater the degree of externality, the greater the probability of loss resulting from unexpected events. High-risk strategies generally are less attractive than low-risk strategies.

Instructions

Step 1 On a separate sheet of paper, number vertically from 1 to 10. Think of 1 as “most risky,” 2 as “next most risky,” and so forth to 10, “least risky.”

Step 2 Write the following strategies beside the appropriate number to indicate how risky you believe the strategy is to pursue: horizontal integration, related diversification, liquidation, forward integration, backward integration, product development, market development, market penetration, retrenchment, and unrelated diversification.

Step 3 Grade your paper as your instructor gives you the right answers and supporting rationale. Each correct answer is worth 10 points.

Assurance of Learning Exercise 5G

Develop Alternative Strategies for My University Purpose It is important for representatives from all areas of a college or university to identify and dis- cuss alternative strategies that could benefit faculty, students, alumni, staff, and other constituen- cies. As you complete this exercise, notice the learning and understanding that occurs as people express differences of opinion. Recall that the process of planning is more important than the document.

Instructions

Step 1 Recall or locate the external opportunity/threat and internal strength/weakness factors that you identified as part of Exercise 1D. If you did not do that exercise, discuss now as a class important external and internal factors facing your college or university.

Step 2 Identify and put on the chalkboard alternative strategies that you feel could benefit your college or university. Your proposed actions should allow the institution to capitalize on particular strengths, improve upon certain weaknesses, avoid external threats, and/or take advantage of particular external opportunities. List 10 possible strategies on the board. Number the strategies as they are written on the board.

Step 3 On a separate sheet of paper, number from 1 to 10. Everyone in class individually should rate the strategies identified, using a 1 to 3 scale, where 1 = I do not support implementation, 2 = I am neutral about implementation, and 3 = I strongly support implementation. In rat- ing the strategies, recognize that your institution cannot do everything desired or potentially beneficial.

Step 4 Go to the board and record your ratings in a row beside the respective strategies. Everyone in class should do this, going to the board perhaps by rows in the class.

Step 5 Sum the ratings for each strategy so that a prioritized list of recommended strategies is obtained. This prioritized list reflects the collective wisdom of your class. Strategies with the highest score are deemed best.

Step 6 Discuss how this process could enable organizations to achieve understanding and commit- ment from individuals.

Step 7 Share your class results with a university administrator, and ask for comments regarding the process and top strategies recommended.

ChaPter 5 • StrategieS in aCtion 169

Assurance of Learning Exercise 5H

Lessons in Doing Business Globally Purpose The purpose of this exercise is to discover some important lessons learned by local businesses that do business internationally.

Instructions Contact several local business leaders by phone. Find at least three firms that engage in international or export operations. Visit the owner or manager of each business in person. Ask the businessperson to give you several important lessons that his or her firm has learned in globally doing business. Record the lessons on paper, and report your findings to the class.

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“Notable Quotes” “Strategic management is not a box of tricks or a bundle of techniques. It is analytical thinking and commitment of resources to action. But quantification alone is not planning. Some of the most important issues in strategic management cannot be quantified at all.” —Peter Drucker

“Objectives are not commands; they are com- mitments. They do not determine the future; they are the means to mobilize resources and energies of an organization for the making of the future.” —Peter Drucker

“Life is full of lousy options.” —General P. X. Kelley

“When a crisis forces choosing among alter- natives, most people will choose the worst possible one.” —Rudin’s Law

“Strategy isn’t something you can nail together in slapdash fashion by sitting around a conference table.” —Terry Haller

“Planning is often doomed before it ever starts, either because too much is expected of it or because not enough is put into it.” —T. J. Cartwright

“Whether it’s broke or not, fix it—make it better. Not just products, but the whole company if necessary.” —Bill Saporito

chapter objectives After studying this chapter, you should be able to do the following:

1. Describe a three-stage framework for choosing among alternative strategies.

2. Explain how to develop a SWOT Matrix, SPACE Matrix, BCG Matrix, IE Matrix, and QSPM.

3. Identify important behavioral, political, ethical, and social responsibility consider- ations in strategy analysis and choice.

4. Discuss the role of intuition in strategic analysis and choice.

5. Discuss the role of organizational culture in strategic analysis and choice.

6. Discuss the role of a board of directors in choosing among alternative strategies.

assurance of Learning exercise 6a Perform a SWOT Analysis for Disney’s Parks & Resorts Business Segment

assurance of Learning exercise 6b Develop a SWOT Matrix for Walt Disney

assurance of Learning exercise 6c Develop a SPACE Matrix for Disney’s Media Networks Business Segment

assurance of Learning exercise 6D Develop a SPACE Matrix for Walt Disney

assurance of Learning exercise 6e Develop a BCG Matrix for Walt Disney

assurance of Learning exercise 6F Develop a QSPM for Walt Disney

assurance of Learning exercise 6G Formulate Individual Strategies

assurance of Learning exercise 6h The Mach Test

assurance of Learning exercise 6i Develop a BCG Matrix for My University

assurance of Learning exercise 6j The Role of Boards of Directors

assurance of Learning exercise 6K Locate Companies in a Grand Strategy Matrix

assurance oF LearninG exercises

Strategy Analysis and Choice

6

172 Part 2 • Strategy Formulation

Strategy analysis and choice largely involve making subjective decisions based on objective information. This chapter introduces important concepts that can help strategists generate fea- sible alternatives, evaluate those alternatives, and choose a specific course of action. Behavioral aspects of strategy formulation are described, including politics, culture, ethics, and social responsibility considerations. Modern tools for formulating strategies are described, and the appropriate role of a board of directors is discussed. Netfix Inc. is an example company pursuing an excellent strategic plan.

The Nature of Strategy Analysis and Choice As indicated by Figure 6-1, this chapter focuses on generating and evaluating alternative strat- egies, as well as selecting strategies to pursue. Strategy analysis and choice seek to determine alternative courses of action that could best enable the firm to achieve its mission and objec- tives. The firm’s present strategies, objectives, and mission, coupled with the external and internal audit information, provide a basis for generating and evaluating feasible alternative strategies.

Excellent Strategic Management Showcased

Netflix, iNc.

Based in Los Gatos, California, Netflix posted a 39 percent profit increase and a 29 percent revenue increase for 2010 as the firm dominated the movie-streaming services industry. Netflix profits for the first quarter of 2011 jumped another 83.6 percent as its revenues jumped 46 percent and its number of subscribers jumped 69 percent. Netflix’s more than 30 million customers pay as little as $7.99 per month to watch an unlimited number of movies and TV episodes streamed over the Internet to PCs, Macs, and TVs. Netflix is doing much better than rival firms Showtime, Starz owned by Liberty Media, Home Box Office (HBO) owned by Time Warner, Blockbuster, and Red Box. Netflix has excellent strategic planning processes and procedures. Netflix is the world’s leading Internet subscription service for enjoying movies and TV shows. Netflix has the second-largest video subscription base of customers, behind Comcast.

Among the large and expanding base of devices streaming Netflix products are Microsoft’s Xbox 360, Nintendo’s Wii, and Sony’s PS3 consoles; an array of Blu-ray disc players, Internet-connected TVs, home theater systems, digital video recorders, and Internet video players; Apple’s iPhone, iPad, and iPod touch; as well as Apple TV and Google TV. In all, more than 200 devices that stream from Netflix are available in the United States and a growing number are available in Canada. Netflix’s stock price tripled in the last 12 months to a high of $296 per share in July 2011.

Although Amazon is maneuvering into the video streaming busi- ness, Netflix may dominate the industry for years since Netflix mailers are in 20 million homes and Netflix is integrated into nearly every new TV, Blu-ray player, game device, and smart phone. Also to Netflix’s benefit, DVDs still matter because people like seeing the latest mov- ies that studios won’t stream via Netflix or Amazon. People like get- ting their HBO and other disc-only content for a reasonable cost,

and  nearly ev- eryone still has a DVD or Blu-ray player and plays DVDs on their computers.

In addition to Amazon being a rival of concern, Netflix also conte nds with 1) Comcast, which has 22.8 million customers, and 2) DIRECTV, the satellite television company that has 20 million subscribers in North America. DIRECTV is gaining the ground that Comcast is yielding. DIRECTV has another 5.4 million subscribers in Latin America. Also a rival to Netflix is Sirius XM, the one and only satellite radio company, which currently has 20.2 million sub- scribers, growing to 21.6 million accounts by the end of 2011. But all in all, Netflix is an excellent company using excellent strategic planning tools and concepts to stay on top of a rapidly changing industry.

Netflix has secured exclusive distribution rights for House of Cards, an original series directed by Hollywood hotshot David Fincher of The Social Network fame. The rumored deal is for Netflix to pay about $100 million for two full seasons of the political drama based on a BBC show starring Kevin Spacey. Media Rights Capital is producing the show.

Source: Based on Nick Wingfield, “Netflix See’s Surge in Subscribers,” Wall Street Journal, January 27, 2011, B9. Also, company documents.

ChaPter 6 • Strategy analySiS and ChoiCe 173

Figure 6-1

A Comprehensive Strategic-Management Model

Strategy Formulation

Strategy Implementation

Strategy Evaluation

Chapter 10: Business Ethics/Social Responsibility/Environmental Sustainability Issues

Chapter 11: Global/International Issues

Measure and Evaluate Performance

Chapter 9

Implement Strategies— Marketing,

Finance, Accounting, R&D,

and MIS Issues Chapter 8

Implement Strategies—

Management Issues

Chapter 7

Perform External Audit

Chapter 3

Develop Vision and Mission Statements Chapter 2

Establish Long-Term Objectives Chapter 5

Generate, Evaluate, and Select Strategies Chapter 6

Perform Internal Audit

Chapter 4

Source: Fred R. David, “How Companies Define Their Mission,” Long Range Planning 22, no. 3 (June 1988): 40.

Unless a desperate situation confronts the firm, alternative strategies will likely represent incremental steps that move the firm from its present position to a desired future position. Alternative strategies do not come out of the wild blue yonder; they are derived from the firm’s vision, mission, objectives, external audit, and internal audit; they are consistent with, or build on, past strategies that have worked well.

The Process of Generating and Selecting Strategies Strategists never consider all feasible alternatives that could benefit the firm because there are an infinite number of possible actions and an infinite number of ways to implement those actions. Therefore, a manageable set of the most attractive alternative strategies must be developed. The advantages, disadvantages, trade-offs, costs, and benefits of these strategies should be deter- mined. This section discusses the process that many firms use to determine an appropriate set of alternative strategies.

Identifying and evaluating alternative strategies should involve many of the managers and employees who earlier assembled the organizational vision and mission statements, performed the external audit, and conducted the internal audit. Representatives from each department and

174 Part 2 • Strategy Formulation

division of the firm should be included in this process, as was the case in previous strategy- formulation activities. Recall that involvement provides the best opportunity for managers and employees to gain an understanding of what the firm is doing and why and to become committed to helping the firm accomplish its objectives.

All participants in the strategy analysis and choice activity should have the firm’s external and internal audit information available. This information, coupled with the firm’s mission state- ment, will help participants crystallize in their own minds particular strategies that they believe could benefit the firm most. Creativity should be encouraged in this thought process.

Alternative strategies proposed by participants should be considered and discussed in a meeting or series of meetings. Proposed strategies should be listed in writing. When all feasible strategies identified by participants are given and understood, the strategies should be ranked in order of attractiveness by all participants, with 1 = should not be implemented, 2 = pos- sibly should be implemented, 3 = probably should be implemented, and 4 = definitely should be implemented. This process will result in a prioritized list of best strategies that reflects the collective wisdom of the group.

A Comprehensive Strategy-Formulation Framework Important strategy-formulation techniques can be integrated into a three-stage decision-making framework, as shown in Figure 6-2. The tools presented in this framework are applicable to all sizes and types of organizations and can help strategists identify, evaluate, and select strategies.

Stage 1 of the formulation framework consists of the EFE Matrix, the IFE Matrix, and the Competitive Profile Matrix (CPM). Called the Input Stage, Stage 1 summarizes the basic input information needed to formulate strategies. Stage 2, called the Matching Stage, focuses upon generating feasible alternative strategies by aligning key external and internal factors. Stage 2 techniques include the Strengths-Weaknesses-Opportunities-Threats (SWOT) Matrix, the Strategic Position and Action Evaluation (SPACE) Matrix, the Boston Consulting Group (BCG) Matrix, the Internal-External (IE) Matrix, and the Grand Strategy Matrix. Stage 3, called the Decision Stage, involves a single technique, the Quantitative Strategic Planning Matrix (QSPM). A QSPM uses input information from Stage 1 to objectively evaluate feasible alternative strate- gies identified in Stage 2. A QSPM reveals the relative attractiveness of alternative strategies and thus provides objective basis for selecting specific strategies.

All nine techniques included in the strategy-formulation framework require the integration of intuition and analysis. Autonomous divisions in an organization commonly use strategy-for- mulation techniques to develop strategies and objectives. Divisional analyses provide a basis for identifying, evaluating, and selecting among alternative corporate-level strategies.

Figure 6-2

The Strategy-Formulation Analytical Framework

STAGE 1: THE INPUT STAGE

Competitive Profile

Matrix (CPM)

External Factor Evaluation (EFE)

Matrix

Internal Factor Evaluation (IFE)

Matrix

STAGE 2: THE MATCHING STAGE

Strategic Position and Action Evaluation (SPACE) Matrix

Boston Consulting Group (BCG)

Matrix

Internal-External (IE) Matrix

Strengths-Weaknesses- Opportunities-Threats

(SWOT) Matrix

Grand Strategy Matrix

STAGE 3: THE DECISION STAGE

Quantitative Strategic Planning Matrix (QSPM)

ChaPter 6 • Strategy analySiS and ChoiCe 175

Strategists themselves, not analytic tools, are always responsible and accountable for strategic decisions. Lenz emphasized that the shift from a words-oriented to a numbers-oriented planning process can give rise to a false sense of certainty; it can reduce dialogue, discussion, and argument as a means for exploring understandings, testing assumptions, and fostering or- ganizational learning.1 Strategists, therefore, must be wary of this possibility and use analytical tools to facilitate, rather than to diminish, communication. Without objective information and analysis, personal biases, politics, emotions, personalities, and halo error (the tendency to put too much weight on a single factor) unfortunately may play a dominant role in the strategy- formulation process.

The Input Stage Procedures for developing an EFE Matrix, an IFE Matrix, and a CPM were presented in Chapters 3 and 4. The information derived from these three matrices provides basic input information for the matching and decision stage matrices described later in this chapter.

The input tools require strategists to quantify subjectivity during early stages of the strategy-formulation process. Making small decisions in the input matrices regarding the relative importance of external and internal factors allows strategists to more effectively gener- ate and evaluate alternative strategies. Good intuitive judgment is always needed in determining appropriate weights and ratings.

The Matching Stage Strategy is sometimes defined as the match an organization makes between its internal resources and skills and the opportunities and risks created by its external factors.2 The match- ing stage of the strategy-formulation framework consists of five techniques that can be used in any sequence: the SWOT Matrix, the SPACE Matrix, the BCG Matrix, the IE Matrix, and the Grand Strategy Matrix. These tools rely upon information derived from the input stage to match external opportunities and threats with internal strengths and weaknesses. Matching external and internal critical success factors is the key to effectively generating feasible alterna- tive strategies. For example, a firm with excess working capital (an internal strength) could take advantage of the cell phone industry’s 20 percent annual growth rate (an external opportunity) by acquiring Cellfone, Inc., a firm in the cell phone industry. This example portrays simple one-to-one matching. In most situations, external and internal relationships are more complex, and the matching requires multiple alignments for each strategy generated. The basic concept of matching is illustrated in Table 6-1.

Any organization, whether military, product-oriented, service-oriented, governmental, or even athletic, must develop and execute good strategies to win. A good offense without a good defense, or vice versa, usually leads to defeat. Developing strategies that use strengths to capi- talize on opportunities could be considered an offense, whereas strategies designed to improve upon weaknesses while avoiding threats could be termed defensive. Every organization has some external opportunities and threats and internal strengths and weaknesses that can be aligned to formulate feasible alternative strategies.

TAble 6-1 Matching Key External and Internal Factors to Formulate Alternative Strategies

Key Internal Factor Key External Factor Resultant Strategy

Excess working capital (an internal strength)

+ 20 percent annual growth in the cell phone industry (an external opportunity)

= Acquire Cellfone, Inc.

Insufficient capacity (an internal weakness)

+ Exit of two major foreign competitors from the industry (an external opportunity)

= Pursue horizontal integration by buying competitors’ facilities

Strong R&D expertise (an internal strength)

+ Decreasing numbers of younger adults (an external threat)

= Develop new products for older adults

Poor employee morale (an internal weakness)

+ Rising health care costs (an external threat) = Develop a new wellness program

176 Part 2 • Strategy Formulation

The Strengths-Weaknesses-Opportunities-Threats (SWOT) Matrix is an important matching tool that helps managers develop four types of strategies: SO (strengths-opportunities) Strategies, WO (weaknesses-opportunities) Strategies, ST (strengths-threats) Strategies, and WT (weaknesses-threats) Strategies.3 Matching key external and internal factors is the most difficult part of developing a SWOT Matrix and requires good judgment—and there is no one best set of matches. Note in Table 6-1 that the first, second, third, and fourth strategies are SO, WO, ST, and WT strategies, respectively.

SO Strategies use a firm’s internal strengths to take advantage of external opportunities. All managers would like their organizations to be in a position in which internal strengths can be used to take advantage of external trends and events. Organizations generally will pursue WO, ST, or WT strategies to get into a situation in which they can apply SO Strategies. When a firm has major weaknesses, it will strive to overcome them and make them strengths. When an orga- nization faces major threats, it will seek to avoid them to concentrate on opportunities.

WO Strategies aim at improving internal weaknesses by taking advantage of external opportunities. Sometimes key external opportunities exist, but a firm has internal weaknesses that prevent it from exploiting those opportunities. For example, there may be a high demand for electronic devices to control the amount and timing of fuel injection in automobile engines (op- portunity), but a certain auto parts manufacturer may lack the technology required for producing these devices (weakness). One possible WO Strategy would be to acquire this technology by forming a joint venture with a firm having competency in this area. An alternative WO Strategy would be to hire and train people with the required technical capabilities.

ST Strategies use a firm’s strengths to avoid or reduce the impact of external threats. This does not mean that a strong organization should always meet threats in the external environment head-on. An example ST Strategy occurred when Texas Instruments used an excellent legal de- partment (a strength) to collect nearly $700 million in damages and royalties from nine Japanese and Korean firms that infringed on patents for semiconductor memory chips (threat). Rival firms that copy ideas, innovations, and patented products are a major threat in many industries. This is still a major problem for U.S. firms selling products in China.

WT Strategies are defensive tactics directed at reducing internal weakness and avoiding external threats. An organization faced with numerous external threats and internal weaknesses may indeed be in a precarious position. In fact, such a firm may have to fight for its survival, merge, retrench, declare bankruptcy, or choose liquidation.

A schematic representation of the SWOT Matrix is provided in Figure 6-3. Note that a SWOT Matrix is composed of nine cells. As shown, there are four key factor cells, four strategy cells, and one cell that is always left blank (the upper-left cell). The four strategy cells, labeled SO, WO, ST, and WT, are developed after completing four key factor cells, labeled S, W, O, and T. There are eight steps involved in constructing a SWOT Matrix:

1. List the firm’s key external opportunities. 2. List the firm’s key external threats. 3. List the firm’s key internal strengths. 4. List the firm’s key internal weaknesses. 5. Match internal strengths with external opportunities, and record the resultant SO Strategies

in the appropriate cell. 6. Match internal weaknesses with external opportunities, and record the resultant WO Strategies. 7. Match internal strengths with external threats, and record the resultant ST Strategies. 8. Match internal weaknesses with external threats, and record the resultant WT Strategies.

Some important aspects of a SWOT Matrix are evidenced in Figure 6-3. For example, note that both the internal/external factors and the SO/ST/WO/WT Strategies are stated in quantita- tive terms to the extent possible. This is important. For example, regarding the second SO #2 and ST #1 strategies, if the analyst just said, “Add new repair/service persons,” the reader might think that 20 new repair/service persons are needed. Actually only two are needed. Always be specific to the extent possible in stating factors and strategies.

It is also important to include the “S1, O2” type notation after each strategy in a SWOT Matrix. This notation reveals the rationale for each alternative strategy. Strategies do not rise out of the blue. Note in Figure 6-3 how this notation reveals the internal/external factors that were matched to for- mulate desirable strategies. For example, note that this retail computer store business may need to “purchase land to build new store” because a new Highway 34 will make its location less desirable. The notation (W2, O2) and (S8, T3) in Figure 6-3 exemplifies this matching process.

ChaPter 6 • Strategy analySiS and ChoiCe 177

Figure 6-3

A SWOT Matrix for a retail Computer Store

Strengths Weaknesses

1. Inventory turnover up 5.8 to 6.7

2. Average customer purchase up $97 to $128

3. Employee morale is excellent

4. In-store promotions = 20% increase in sales

5. Newspaper advertising expenditures down 10%

6. Revenues from repair/service in store up 16%

7. In-store technical support persons have MIS degrees

8. Store’s debt-to-total-assets ratio down 34%

1. Software revenues in store down 12%

2. Location of store hurt by new Hwy 34

3. Carpet and paint in store in disrepair

4. Bathroom in store needs refurbishing

5. Total store revenues down 8%

6. Store has no website

7. Supplier on-time-delivery up to 2.4 days

8. Customer checkout process too slow

9. Revenues per employee up 19%

Opportunities SO Strategies WO Strategies

1. Population of city growing 10%

2. Rival computer store opening 1 mile away

3. Vehicle traffic passing store up 12%

4. Vendors average six new products/yr

5. Senior citizen use of computers up 8%

6. Small business growth in area up 10%

7. Desire for websites up 18% by realtors

8. Desire for websites up 12% by small firms

1. Add 4 new in-store promotions monthly (S4, O3)

2. Add 2 new repair/service persons (S6, O5)

3. Send flyer to all seniors over age 55 (S5, O5)

1. Purchase land to build new store (W2, O2)

2. Install new carpet/paint/bath (W3, W4, O1)

3. Up website services by 50% (W6, O7, O8)

4. Launch mailout to all realtors in city (W5, O7)

Threats ST Strategies WT Strategies

1. Best Buy opening new store in 1 yr nearby

2. Local university offers computer repair

3. New bypass Hwy 34 in 1 yr will divert traffic

4. New mall being built nearby

5. Gas prices up 14%

6. Vendors raising prices 8%

1. Hire 2 more repair persons and mar- ket these new services (S6, S7, T1)

2. Purchase land to build new store (S8, T3)

3. Raise out-of-store service calls from $60 to $80 (S6, T5)

1. Hire 2 new cashiers (W8, T1, T4)

2. Install new carpet/paint/bath (W3, W4, T1)

The purpose of each Stage 2 matching tool is to generate feasible alternative strategies, not to select or determine which strategies are best. Not all of the strategies developed in the SWOT Matrix, therefore, will be selected for implementation.

The strategy-formulation guidelines provided in Chapter 5 can enhance the process of matching key external and internal factors. For example, when an organization has both the capi- tal and human resources needed to distribute its own products (internal strength) and distributors are unreliable, costly, or incapable of meeting the firm’s needs (external threat), forward inte- gration can be an attractive ST Strategy. When a firm has excess production capacity (internal weakness) and its basic industry is experiencing declining annual sales and profits (external threat), related diversification can be an effective WT Strategy.

Although the SWOT matrix is widely used in strategic planning, the analysis does have some limitations.4 First, SWOT does not show how to achieve a competitive advantage, so it

178 Part 2 • Strategy Formulation

must not be an end in itself. The matrix should be the starting point for a discussion on how proposed strategies could be implemented as well as cost-benefit considerations that ultimately could lead to competitive advantage. Second, SWOT is a static assessment (or snapshot) in time. A SWOT matrix can be like studying a single frame of a motion picture where you see the lead characters and the setting but have no clue as to the plot. As circumstances, capabilities, threats, and strategies change, the dynamics of a competitive environment may not be revealed in a single matrix. Third, SWOT analysis may lead the firm to overemphasize a single internal or external factor in formulating strategies. There are interrelationships among the key internal and external factors that SWOT does not reveal that may be important in devising strategies.

The Strategic Position and Action Evaluation (SPACE) Matrix The Strategic Position and Action Evaluation (SPACE) Matrix, another important Stage 2 matching tool, is illustrated in Figure 6-4. Its four-quadrant framework indicates whether aggressive, conservative, defensive, or competitive strategies are most appropriate for a given organization. The axes of the SPACE Matrix represent two internal dimensions (financial position [FP] and competitive position [CP]) and two external dimensions (stability position [SP] and industry position [IP]). These four factors are perhaps the most important determinants of an organization’s overall strategic position.5

Depending on the type of organization, numerous variables could make up each of the dimensions represented on the axes of the SPACE Matrix. Factors that were included earlier in the firm’s EFE and IFE Matrices should be considered in developing a SPACE Matrix. Other variables commonly included are given in Table 6-2. For example, return on investment, leverage,

Figure 6-4

The SPACe Matrix

SP

FP

Conservative

• Market penetration • Market development • Product development • Related diversification

Defensive

• Retrenchment • Divestiture • Liquidation

• Backward, forward, horizontal integration • Market penetration • Market development • Product development • Diversification (related or unrelated)

• Backward, forward, horizontal integration • Market penetration • Market development • Product development

Aggressive

Competitive

CP

+6

+5

+4

+3

+2

+1

0

0

–1

–2

–3

–4

–5

–6

–7

IP –6 –5–7 –4 –3 –2 –1 +1 +2 +3 +4 +5 +6 +7

+7

Source: Adapted from H. Rowe, R. Mason, and K. Dickel, Strategic Management and Business Policy: A Methodological Approach (Reading, MA: Addison-Wesley Publishing Co. Inc., © 1982), 155.

ChaPter 6 • Strategy analySiS and ChoiCe 179

TAble 6-2 Example Factors That Make Up the SPACE Matrix Axes

Internal Strategic Position External Strategic Position

Financial Position (FP) Stability Position (SP)

Return on investment Technological changes

Leverage Rate of inflation

Liquidity Demand variability

Working capital Price range of competing products

Cash flow Barriers to entry into market

Inventory turnover Competitive pressure

Earnings per share Ease of exit from market

Price earnings ratio Price elasticity of demand

Risk involved in business

Competitive Position (CP) Industry Position (IP)

Market share Growth potential

Product quality Profit potential

Product life cycle Financial stability

Customer loyalty Extent leveraged

Capacity utilization Resource utilization

Technological know-how Ease of entry into market

Control over suppliers and distributors Productivity, capacity utilization

Source: Adapted from H. Rowe, R. Mason, and K. Dickel, Strategic Management and Business Policy: A Methodological Approach (Reading, MA: Addison-Wesley Publishing Co. Inc., © 1982), 155–156.

liquidity, working capital, and cash flow are commonly considered to be determining factors of an organization’s financial strength. Like the SWOT Matrix, the SPACE Matrix should be both tailored to the particular organization being studied and based on factual information as much as possible.

The steps required to develop a SPACE Matrix are as follows:

1. Select a set of variables to define financial position (FP), competitive position (CP), stability position (SP), and industry position (IP).

2. Assign a numerical value ranging from +1 (worst) to +7 (best) to each of the variables that make up the FP and IP dimensions. Assign a numerical value ranging from –1 (best) to –7 (worst) to each of the variables that make up the SP and CP dimensions. On the FP and CP axes, make comparison to competitors. On the IP and SP axes, make comparison to other industries.

3. Compute an average score for FP, CP, IP, and SP by summing the values given to the vari- ables of each dimension and then by dividing by the number of variables included in the respective dimension.

4. Plot the average scores for FP, IP, SP, and CP on the appropriate axis in the SPACE Matrix. 5. Add the two scores on the x-axis and plot the resultant point on X. Add the two scores on

the y-axis and plot the resultant point on Y. Plot the intersection of the new xy point. 6. Draw a directional vector from the origin of the SPACE Matrix through the new intersec-

tion point. This vector reveals the type of strategies recommended for the organization: aggressive, competitive, defensive, or conservative.

Some examples of strategy profiles that can emerge from a SPACE analysis are shown in Figure 6-5. The directional vector associated with each profile suggests the type of strategies to pursue: aggressive, conservative, defensive, or competitive. When a firm’s directional vector is located in the aggressive quadrant (upper-right quadrant) of the SPACE Matrix, an organization is in an excellent position to use its internal strengths to (1) take advantage of external oppor- tunities, (2) overcome internal weaknesses, and (3) avoid external threats. Therefore, market penetration, market development, product development, backward integration, forward integra- tion, horizontal integration, or diversification, can be feasible, depending on the specific circum- stances that face the firm.

180 Part 2 • Strategy Formulation

Figure 6-5

example Strategy Profiles

Defensive Profiles

A financially strong firm that has achieved major competitive advantages in a growing and stable industry

Aggressive Profiles

Conservative Profiles

FP

SP

CP IP

(+4,+4)

A firm that has achieved financial strength in a stable industry that is not growing; the firm has few competitive advantages

FP

SP

CP IP

(–2,+4)

Competitive Profiles

A firm that has a very weak competitive position in a negative growth, stable industry

IP

A firm with major competitive advantages in a high-growth industry

FP

SP

CP

(+5,–1)

A firm whose financial strength is a dominating factor in the industry

A firm that suffers from major competitive disadvantages in an industry that is technologically stable but declining in sales

An organization that is competing fairly well in an unstable industry

A financially troubled firm in a very unstable industry

IP

FP

SP

CP

(+1,–4)

FP

SP

CP IP

(+1,+5)

FP

SP

CP IP

(–5,+2)

IP

FP

SP

CP

(–5,–1)

IP

FP

SP

CP

(–1,–5)

Source: Adapted from H. Rowe, R. Mason, and K. Dickel, Strategic Management and Business Policy: A Methodological Approach (Reading, MA: Addison-Wesley Publishing Co. Inc., © 1982), 155.

ChaPter 6 • Strategy analySiS and ChoiCe 181

When a particular company is known, the analyst must be much more specific in terms of recommended strategies. For example, instead of saying market penetration is a recommended strategy when your vector goes in the Conservative quadrant, say that adding 34 new stores in India is a recommended strategy. This is a very important point for students doing case analyses because a particular company is generally known, and terms such as market development are too vague to use. That term could refer to adding a manufacturing plant in Thailand or Mexico or South Africa—so students—Be specific to the extent possible regarding implications of all the matrices presented in Chapter 6.

The directional vector may appear in the conservative quadrant (upper-left quadrant) of the SPACE Matrix, which implies staying close to the firm’s basic competencies and not tak- ing excessive risks. Conservative strategies most often include market penetration, market development, product development, and related diversification. The directional vector may be located in the lower-left or defensive quadrant of the SPACE Matrix, which suggests that the firm should focus on rectifying internal weaknesses and avoiding external threats. Defensive strategies include retrenchment, divestiture, liquidation, and related diversification. Finally, the directional vector may be located in the lower-right or competitive quadrant of the SPACE Matrix, indicating competitive strategies. Competitive strategies include backward, forward, and horizontal integration; market penetration; market development; and product development.

A SPACE Matrix analysis for a bank is provided in Table 6-3. Note that competitive type strategies are recommended. Headquartered in Winston-Salem, North Carolina, Krispy

TAble 6-3 A SPACE Matrix for a Bank

Financial Position (FP) Ratings

The bank’s primary capital ratio is 7.23 percent, which is 1.23 percentage points over the generally required ratio of 6 percent. 1.0

The bank’s return on assets is negative 0.77, compared to a bank industry average ratio of positive 0.70. 1.0

The bank’s net income was $183 million, down 9 percent from a year earlier. 3.0

The bank’s revenues increased 7 percent to $3.46 billion. 4.0

9.0

Industry Position (IP)

Deregulation provides geographic and product freedom. 4.0

Deregulation increases competition in the banking industry. 2.0

Pennsylvania’s interstate banking law allows the bank to acquire other banks in New Jersey, Ohio, Kentucky, the District of Columbia, and West Virginia.

4.0

10.0

Stability Position (SP)

Less-developed countries are experiencing high inflation and political instability. −4.0 Headquartered in Pittsburgh, the bank historically has been heavily dependent on the steel, oil, and gas industries. These industries are depressed.

−5.0

Banking deregulation has created instability throughout the industry. −4.0

−13.0 Competitive Position (CP)

The bank provides data processing services for more than 450 institutions in 38 states. −2.0 Superregional banks, international banks, and nonbanks are becoming increasingly competitive. −5.0 The bank has a large customer base. −2.0

−9.0 Conclusion

SP Average is −13.0 ÷ 3 =−4.33 IP Average is +10.0 ÷ 3=3.33

CP Average is −9.0 ÷ 3=−3.00 FP Average is +9.0 ÷ 4=2.25

Directional Vector Coordinates: x-axis: −3.00+(+3.33)=+0.33

y-axis: −4.33 +(+2.25)=−2.08 The bank should pursue Competitive Strategies.

182 Part 2 • Strategy Formulation

TAble 6-4 An Actual SPACE Matrix for Krispy Kreme

Internal Analysis External Analysis

Financial Position (FP) Stability Position (SP)

Return on Investment (ROI) 1 Rate of Inflation −2 Leverage 4 Technological Changes −6 Liquidity 2 Price Elasticity of Demand −3 Working Capital 1 Competitive Pressure −7 Cash Flow 2 Barriers to Entry into Market −4 Financial Position (FP) Average 2 Stability Position (SP)

Average ∙4.4

Internal Analysis External Analysis

Competitive Position (CP) Industry Position (IP)

Market Share −7 Growth Potential 6

Product Quality −2 Financial Stability 2

Customer Loyalty −3 Ease of Entry into Market 4

Technological Know-how −4 Resource Utilization 1

Control over Suppliers/Distributors −5 Profit Potential 2

Competitive Position (CP) Average ∙4.2 Industry Position (IP) Average

3.0

2.0+(−4.4)=−2.4 y-axis

3.0+(−4.2)=−1.2 x-axis

Coordinate (−1.2, −2.4) Conclusion: Vector points in Defensive Quadrant

Kreme Doughnut (KKD) Corp. has offered delicious doughnuts and coffee since 1937. Today, Krispy Kreme’s “Hot Light” stores can be found in approximately 649 locations in 20 coun- tries, including the United States, Australia, Bahrain, Canada, China, Dominican Republic, Indonesia, Japan, Kuwait, Lebanon, Malaysia, Mexico, the Philippines, Puerto Rico, the Republic of Korea, Qatar, the Kingdom of Saudi Arabia, Thailand, Turkey, the United Arab Emirates, and the United Kingdom. The company’s mission statement is “To touch and en- hance lives through the joy that is Krispy Kreme,” and its vision statement is “To be the world- wide leader in sharing delicious tastes and creating joyful memories.” A SPACE Matrix for KKD is given in Table 6-4 followed by the KKD SPACE diagram in Figure 6-6. Note that KKD is in a precarious defensive position, struggling to compete against Dunkin Donuts, Starbucks, and Tim Hortons.

The Boston Consulting Group (BCG) Matrix Based in Boston and having 1,713 employees, the Boston Consulting Group (BCG) is a large consulting firm that endured the recent economic downturn without laying off any employees and in 2010 hired the most new consultants ever. BCG ranks #2 in Fortune’s recent list of the “100 Best Companies To Work For.”

Autonomous divisions (or profit centers) of an organization make up what is called a business portfolio. When a firm’s divisions compete in different industries, a separate strategy often must be developed for each business. The Boston Consulting Group (BCG) Matrix and the Internal-External (IE) Matrix are designed specifically to enhance a multidivisional firm’s efforts to formulate strategies. (BCG is a private management consulting firm based in Boston that currently employs about 4,400 consultants in 40 countries.)

ChaPter 6 • Strategy analySiS and ChoiCe 183

Figure 6-6

A SPACe Matrix for Krispy Kreme

SP

FP

x-axis = –1.2, y-axis = –2.4

Conservative

Defensive

Aggressive

Competitive

CP

+6

+7

+5

+4

+3

+2

+1

0

0

–1

–2

–3

–4

–5

–6

–7

IP –6 –5–7 –4 –3 –2 –1 +1 +2 +3 +4 +5 +6 +7

In a Form 10K or Annual Report, some companies do not disclose financial information by segment, so a BCG portfolio analysis is not possible by external entities. Reasons to disclose by- division financial information in the author’s view, however, more than offset the reasons not to disclose, as indicated in Table 6-5.

The BCG Matrix graphically portrays differences among divisions in terms of relative market share position and industry growth rate. The BCG Matrix allows a multidivisional organization to manage its portfolio of businesses by examining the relative market share position and the indus- try growth rate of each division relative to all other divisions in the organization. Relative market share position is defined as the ratio of a division’s own market share (or revenues) in a particular

TAble 6-5 Reasons to (or Not to) Disclose Financial Information by Segment (by Division)

Reasons to Disclose Reasons Not to Disclose

1. Transparency is a good thing in today’s world of Sarbanes-Oxley

2. Investors will better understand the firm, which can lead to greater support

3. Managers/employees will better understand the firm, which should lead to greater commitment

4. Disclosure enhances the communication process both within the firm and with outsiders

1. Can become free competitive information for rival firms

2. Can hide performance failures

3. Can reduce rivalry among segments

184 Part 2 • Strategy Formulation

industry to the market share (or revenues) held by the largest rival firm in that industry. Note in Table 6-6 that other variables can be in this analysis besides revenues. For example, number of stores, or number of restaurants, or in the airline industry number of airplanes could be used for comparative purposes to determine relative market share position. Relative market share position for Heineken could also be determined by dividing Heineken’s revenues by the leader Corona Extra’s revenues.

Relative market share position is given on the x-axis of the BCG Matrix. The midpoint on the x-axis usually is set at .50, corresponding to a division that has half the market share of the leading firm in the industry. The y-axis represents the industry growth rate in sales, measured in percentage terms. The growth rate percentages on the y-axis could range from 220 to 120 percent, with 0.0 being the midpoint. The average annual increase in revenues for several lead- ing firms in the industry would be a good estimate of the value. Also, various sources such as the S&P Industry Survey would provide this value. These numerical ranges on the x- and y-axes are often used, but other numerical values could be established as deemed appropriate for particular organizations, such as 210 to 110 percent.

The basic BCG Matrix appears in Figure 6-7. Each circle represents a separate division. The size of the circle corresponds to the proportion of corporate revenue generated by that business unit, and the pie slice indicates the proportion of corporate profits generated by that division. Divisions located in Quadrant I of the BCG Matrix are called “Question Marks,” those located in

TAble 6-6 Marker Share Data for Selected Industries

Business Analytics (using software to mine huge volumes of data to enhance decision-making; WSJ, 1/18/11, B4)—Market Share Leaders

Oracle 18.3%

SAP 13.6%

IBM 12.4%

SAS 7.8%

Microsoft 7.5%

Book Sales (USA Today, 2/10/11, 2A)

Amazon 22.6%

Barnes & Noble 17.3%

Borders 8.1%

Books-A-Million 3.0%

Independents 6.0%

Ready-to-Drink Beverages (WSJ, 2/10/11, B4)

Soft drinks 46.6%

Bottled water 19.9%

Non-refrigerated juice 9.0%

Refrigerated juice 9.0%

Sports drinks 6.2%

Tea 4.2%

Enhanced water 2.5%

Energy drinks 2.4%

Coffee 0.2%

U.S. Carbonated Soft Drinks (WSJ, 3/18/11, B5)

BY COMPANY BY BRAND

Coca-Cola 42.0% Coke 17.0%

PepsiCo 29.3% Diet Coke 9.9%

Dr Pepper/Snapple 16.7% Pepsi-Cola 9.5%

Cott 4.8% Mt. Dew 6.8%

National Beverage 2.8% Dr Pepper 6.3%

ChaPter 6 • Strategy analySiS and ChoiCe 185

Quadrant II are called “Stars,” those located in Quadrant III are called “Cash Cows,” and those divisions located in Quadrant IV are called “Dogs.”

• Question Marks—Divisions in Quadrant I have a low relative market share position, yet they compete in a high-growth industry. Generally these firms’ cash needs are high and their cash generation is low. These businesses are called Question Marks because the orga- nization must decide whether to strengthen them by pursuing an intensive strategy (market penetration, market development, or product development) or to sell them.

• Stars—Quadrant II businesses (Stars) represent the organization’s best long-run oppor- tunities for growth and profitability. Divisions with a high relative market share and a high industry growth rate should receive substantial investment to maintain or strengthen their dominant positions. Forward, backward, and horizontal integration; market penetra- tion; market development; and product development are appropriate strategies for these divisions to consider, as indicated in Figure 6-7.

• Cash Cows—Divisions positioned in Quadrant III have a high relative market share posi- tion but compete in a low-growth industry. Called Cash Cows because they generate cash in excess of their needs, they are often milked. Many of today’s Cash Cows were yester- day’s Stars. Cash Cow divisions should be managed to maintain their strong position for as long as possible. Product development or diversification may be attractive strategies for strong Cash Cows. However, as a Cash Cow division becomes weak, retrenchment or di- vestiture can become more appropriate.

• Dogs—Quadrant IV divisions of the organization have a low relative market share position and compete in a slow- or no-market-growth industry; they are Dogs in the firm’s portfolio. Because of their weak internal and external position, these businesses are often liquidated, divested, or trimmed down through retrenchment. When a division first becomes a Dog, re- trenchment can be the best strategy to pursue because many Dogs have bounced back, after strenuous asset and cost reduction, to become viable, profitable divisions.

The major benefit of the BCG Matrix is that it draws attention to the cash flow, investment characteristics, and needs of an organization’s various divisions. The divisions of many firms evolve over time: Dogs become Question Marks, Question Marks become Stars, Stars become Cash Cows, and Cash Cows become Dogs in an ongoing counterclockwise motion. Less fre- quently, Stars become Question Marks, Question Marks become Dogs, Dogs become Cash Cows, and Cash Cows become Stars (in a clockwise motion). In some organizations, no cyclical motion is apparent. Over time, organizations should strive to achieve a portfolio of divisions that are Stars.

Figure 6-7

The bCg Matrix RELATIVE MARKET SHARE POSITION

High Medium Low

1.0 .50 0.0

High

Medium

Low

+20

0

–20

IN D

U ST

R Y

S A

LE S

G R

O W

T H

R A

T E

(P er

ce n

ta ge

) Stars II

Question Marks I

Dogs IV

Cash Cows III

• Backward, Forward, or Horizontal Integration • Market Penetration • Market Development • Product Development

• Market Penetration • Market Development • Product Development • Divestiture

• Product Development • Diversification • Retrenchment • Divestiture

• Retrenchment • Divestiture • Liquidation

Source: Based on the BCG Portfolio Matrix from the Product Portfolio Matrix, © 1970, The Boston Consulting Group.

186 Part 2 • Strategy Formulation

An example BCG Matrix is provided in Figure 6-8, which illustrates an organization com- posed of five divisions with annual sales ranging from $5,000 to $60,000. Division 1 has the greatest sales volume, so the circle representing that division is the largest one in the matrix. The circle corresponding to Division 5 is the smallest because its sales volume ($5,000) is least among all the divisions. The pie slices within the circles reveal the percent of corporate profits contributed by each division. As shown, Division 1 contributes the highest profit percentage, 39 percent. Notice in the diagram that Division 1 is considered a Star, Division 2 is a Question Mark, Division 3 is also a Question Mark, Division 4 is a Cash Cow, and Division 5 is a Dog.

The BCG Matrix, like all analytical techniques, has some limitations. For example, viewing every business as either a Star, Cash Cow, Dog, or Question Mark is an oversimplification; many businesses fall right in the middle of the BCG Matrix and thus are not easily classi- fied. Furthermore, the BCG Matrix does not reflect whether or not various divisions or their industries are growing over time; that is, the matrix has no temporal qualities, but rather it is a snapshot of an organization at a given point in time. Finally, other variables besides relative market share position and industry growth rate in sales, such as size of the market and competi- tive advantages, are important in making strategic decisions about various divisions.

An example BCG Matrix is provided in Figure 6-9. Note in Figure 6-9 that Division 5 had an operating loss of $188 million. Take note how the percent profit column is still calculated because oftentimes a firm will have a division that incurs a loss for a year. In terms of the pie slice in circle 5 of the diagram, note that it is a different color from the positive profit segments in the other circles.

The Internal-External (IE) Matrix The Internal-External (IE) Matrix positions an organization’s various divisions in a nine-cell display, illustrated in Figure 6-10. The IE Matrix is similar to the BCG Matrix in that both tools involve plotting organization divisions in a schematic diagram; this is why they are both called “portfolio matrices.” Also, the size of each circle represents the percentage sales contribution of each division, and pie slices reveal the percentage profit contribution of each division in both the BCG and IE Matrix.

But there are some important differences between the BCG Matrix and the IE Matrix. First, the axes are different. Also, the IE Matrix requires more information about the divisions than the

Figure 6-8

An example bCg Matrix

High 1.0

High

Division

1 2 3 4 5

Total

Revenues

$60,000 40,000 40,000 20,000 5,000

$165,000

Percent Revenues

37 24 24 12 3

100

Profits

$10,000 5,000 2,000 8,000 500

$25,500

Percent Profits

39 20 8 31 2

100

Relative Market Share

.80

.40

.10

.60 .05 —

Industry Growth Rate (%)

+15 +10 +1 –20 –10 —

Medium

Low

Medium .50

Low 0.0

+20

0

–20

39%1

4 31%

RELATIVE MARKET SHARE POSITION IN THE INDUSTRY

INDUSTRY SALES GROWTH RATE (Percentage)

2

3

5

20%

8%

2%

ChaPter 6 • Strategy analySiS and ChoiCe 187

Figure 6-9

An example bCg Matrix

1.0

$ Sales (millions) % Profits IG Rate %% SalesDivision

1. 2. 3. 4. 5. Total

$ Profits (millions) RMSP

0.50.60.70.80.9 0.0

+20

+15

+10

+5

0

–20

–15

–10

–5

68%

RELATIVE MARKET SHARE POSITION (RMSP)

INDUSTRY SALES GROWTH RATE %

5

39.0% 1.2%

18.3% 4 0.1%

2 3

1

0.10.20.30.4

799 400 12 4

–188 $1,027

0.8 0.4 0.2 0.5 .02

10 05 00

–05 –10

68.0 39.0

1.2 0.1

(18.3) 100.0

51.5 25.6 17.5

4.9 0.5

100.0

$5,139 2,556 1,749

493 42

$9,979

$

Figure 6-10

The internal–external (ie) Matrix

Strong 3.0 to 4.0

High 3.0 to 4.0

Medium 2.0 to 2.99

Low 1.0 to 1.99

Average 2.0 to 2.99

Weak 1.0 to 1.99

3.0 4.0

3.0

2.0

1.0

Hold and Maintain

Grow and Build

Harvest or Divest

2.0 1.0

THE IFE TOTAL WEIGHTED SCORES

THE EFE TOTAL WEIGHTED SCORES

I II III

VIV

VII VIII IX

VI

• Backward, Forward, or Horizontal Integration • Market Penetration • Market Development • Product Development

• Market Penetration • Product Development

• Retrenchment • Divestiture

Source: Adapted. The IE Matrix was developed from the General Electric (GE) Business Screen Matrix. For a description of the GE Matrix see Michael Allen, “Diagramming GE’s Planning for What’s WATT,” in R. Allio and M. Pennington, eds., Corporate Planning: Techniques and Applications lpar;New York: AMACOM, 1979).

188 Part 2 • Strategy Formulation

BCG Matrix. Furthermore, the strategic implications of each matrix are different. For these rea- sons, strategists in multidivisional firms often develop both the BCG Matrix and the IE Matrix in formulating alternative strategies. A common practice is to develop a BCG Matrix and an IE Matrix for the present and then develop projected matrices to reflect expectations of the future. This before-and-after analysis forecasts the expected effect of strategic decisions on an organiza- tion’s portfolio of divisions.

The IE Matrix is based on two key dimensions: the IFE total weighted scores on the x-axis and the EFE total weighted scores on the y-axis. Recall that each division of an organization should construct an IFE Matrix and an EFE Matrix for its part of the organization. The total weighted scores derived from the divisions allow construction of the corporate-level IE Matrix. On the x-axis of the IE Matrix, an IFE total weighted score of 1.0 to 1.99 represents a weak in- ternal position; a score of 2.0 to 2.99 is considered average; and a score of 3.0 to 4.0 is strong. Similarly, on the y-axis, an EFE total weighted score of 1.0 to 1.99 is considered low; a score of 2.0 to 2.99 is medium; and a score of 3.0 to 4.0 is high.

The IE Matrix can be divided into three major regions that have different strategy implica- tions. First, the prescription for divisions that fall into cells I, II, or IV can be described as grow and build. Intensive (market penetration, market development, and product development) or integrative (backward integration, forward integration, and horizontal integration) strategies can be most appropriate for these divisions. Second, divisions that fall into cells III, V, or VII can be managed best with hold and maintain strategies; market penetration and product development are two commonly employed strategies for these types of divisions. Third, a common prescrip- tion for divisions that fall into cells VI, VIII, or IX is harvest or divest. Successful organizations are able to achieve a portfolio of businesses positioned in or around cell I in the IE Matrix.

An example of a completed IE Matrix is given in Figure 6-11, which depicts an organiza- tion composed of four divisions. As indicated by the positioning of the circles, grow and build strategies are appropriate for Division 1, Division 2, and Division 3. Division 4 is a candidate for harvest or divest. Division 2 contributes the greatest percentage of company sales and thus is represented by the largest circle. Division 1 contributes the greatest proportion of total profits; it has the largest-percentage pie slice.

Figure 6-11

An example ie Matrix

Strong 3.0 to 4.0

High 3.0 to 4.0

Division

1 2 3 4

Total

Sales

$100 200 50 50 400

Percent Sales Profits

10 5 4 1 20

Percent Profits

50 25 20 5

100

IFE Scores

3.6 2.1 3.1 1.8

EFE Scores

3.2 3.5 2.1 2.5

Medium 2.0 to 2.99

Low 1.0 to 1.99

Average 2.0 to 2.99

Weak 1.0 to 1.99

1 2

4

3.0 4.0

3.0

2.0

1.0

2.0 1.0

50% 25%

5%3 20%

THE IFE TOTAL WEIGHTED SCORES

THE EFE TOTAL WEIGHTED SCORES

25.0 50.0 12.5 12.5

100.0

ChaPter 6 • Strategy analySiS and ChoiCe 189

As indicated in Figure 6-12, the IE Matrix has five product segments. Note that Division 1 has the largest revenues (as indicated by the largest circle) and the largest profits (as indicated by the largest pie slice) in the matrix. It is common for organizations to develop both geographic and product-based IE Matrices to more effectively formulate strategies and allocate resources among divisions. In addition, firms often prepare an IE (or BCG) Matrix for competitors. Furthermore, firms will often prepare “before and after” IE (or BCG) Matrices to reveal the situation at present versus the expected situation after one year. This latter idea minimizes the limitation of these matrices being a “snapshot in time.” In performing case analysis, feel free to estimate the IFE and EFE scores for the various divisions based upon your research into the company and industry—rather than preparing a separate IE Matrix for each division.

The Grand Strategy Matrix In addition to the SWOT Matrix, SPACE Matrix, BCG Matrix, and IE Matrix, the Grand Strategy Matrix has become a popular tool for formulating alternative strategies. All organiza- tions can be positioned in one of the Grand Strategy Matrix’s four strategy quadrants. A firm’s divisions likewise could be positioned. As illustrated in Figure 6-13, the Grand Strategy Matrix is based on two evaluative dimensions: competitive position and market (industry) growth. Any industry whose annual growth in sales exceeds 5 percent could be considered to have rapid growth. Appropriate strategies for an organization to consider are listed in sequential order of attractiveness in each quadrant of the matrix.

Firms located in Quadrant I of the Grand Strategy Matrix are in an excellent strategic position. For these firms, continued concentration on current markets (market penetration and market develop- ment) and products (product development) is an appropriate strategy. It is unwise for a Quadrant I firm to shift notably from its established competitive advantages. When a Quadrant I organization has excessive resources, then backward, forward, or horizontal integration may be effective strategies. When a Quadrant I firm is too heavily committed to a single product, then related diversification may reduce the risks associated with a narrow product line. Quadrant I firms can afford to take advantage of external opportunities in several areas. They can take risks aggressively when necessary.

Figure 6-12

The ie Matrix

Strong 3.0 to 4.0

High 3.0 to 4.0

Grow and Build Segments

1. 2. 3. 4. 5. Total

% Revenue$ Revenue % Profit$ Profit IFE ScoresEFE Scores

Medium 2.0 to 2.99

Low 1.0 to 1.99

Average 2.0 to 2.99

Weak 1.0 to 1.99

I II

V

III

VII VIII IX

IV VI

5

4

21

3

4.0

3.0

3.0

2.0

1.0

16%

59%

4%

19%

2%

THE IFE TOTAL WEIGHTED SCORES

THE EFE TOTAL WEIGHTED SCORES

2.0 1.0

71.5% 11.3% 14.3%

0.8% 2.1%

100%

$7,868 1,241 1,578

90 223

$11,000

59% 19% 16%

2% 4%

100%

$3,000 1,000

800 100 200

$5,100

3 2 3

2.5 2

—

2.5 2 3

2.5 3

—

190 Part 2 • Strategy Formulation

Firms positioned in Quadrant II need to evaluate their present approach to the marketplace seriously. Although their industry is growing, they are unable to compete effectively, and they need to determine why the firm’s current approach is ineffective and how the company can best change to improve its competitiveness. Because Quadrant II firms are in a rapid-market-growth industry, an intensive strategy (as opposed to integrative or diversification) is usually the first option that should be considered. However, if the firm is lacking a distinctive competence or competitive advantage, then horizontal integration is often a desirable alternative. As a last resort, divestiture or liquidation should be considered. Divestiture can provide funds needed to acquire other businesses or buy back shares of stock.

Quadrant III organizations compete in slow-growth industries and have weak competitive positions. These firms must make some drastic changes quickly to avoid further decline and pos- sible liquidation. Extensive cost and asset reduction (retrenchment) should be pursued first. An alternative strategy is to shift resources away from the current business into different areas (diver- sify). If all else fails, the final options for Quadrant III businesses are divestiture or liquidation.

Finally, Quadrant IV businesses have a strong competitive position but are in a slow-growth industry. These firms have the strength to launch diversified programs into more promising growth areas: Quadrant IV firms have characteristically high cash-flow levels and limited internal growth needs and often can pursue related or unrelated diversification successfully. Quadrant IV firms also may pursue joint ventures.

The Decision Stage Analysis and intuition provide a basis for making strategy-formulation decisions. The match- ing techniques just discussed reveal feasible alternative strategies. Many of these strategies will likely have been proposed by managers and employees participating in the strategy analysis and choice activity. Any additional strategies resulting from the matching analyses could be discussed and added to the list of feasible alternative options. As indicated earlier in this chapter, participants could rate these strategies on a 1 to 4 scale so that a prioritized list of the best strategies could be achieved.

Figure 6-13

The grand Strategy Matrix

RAPID MARKET GROWTH

SLOW MARKET GROWTH

STRONG COMPETITIVE

POSITION

WEAK COMPETITIVE

POSITION

Quadrant II

1. Market development 2. Market penetration 3. Product development 4. Horizontal integration 5. Divestiture 6. Liquidation

Quadrant I

1. Market development 2. Market penetration 3. Product development 4. Forward integration 5. Backward integration 6. Horizontal integration 7. Related diversification

Quadrant III

1. Retrenchment 2. Related diversification 3. Unrelated diversification 4. Divestiture 5. Liquidation

Quadrant IV

1. Related diversification 2. Unrelated diversification 3. Joint ventures

Source: Based on Roland Christensen, Norman Berg, and Malcolm Salter, Policy Formulation and Administration (Homewood, IL: Richard D. Irwin, 1976), 16–18.

ChaPter 6 • Strategy analySiS and ChoiCe 191

The Quantitative Strategic Planning Matrix (QSPM) Other than ranking strategies to achieve the prioritized list, there is only one analytical technique in the literature designed to determine the relative attractiveness of feasible alternative actions. This technique is the Quantitative Strategic Planning Matrix (QSPM), which comprises Stage 3 of the strategy-formulation analytical framework.6 This technique objectively indicates which alternative strategies are best. The QSPM uses input from Stage 1 analyses and matching results from Stage 2 analyses to decide objectively among alternative strategies. That is, the EFE Matrix, IFE Matrix, and Competitive Profile Matrix that comprise Stage 1, coupled with the SWOT Matrix, SPACE Matrix, BCG Matrix, IE Matrix, and Grand Strategy Matrix that comprise Stage 2, provide the needed in- formation for setting up the QSPM (Stage 3). The QSPM is a tool that allows strategists to evaluate alternative strategies objectively, based on previously identified external and internal critical success factors. Like other strategy-formulation analytical tools, the QSPM requires good intuitive judgment.

The basic format of the QSPM is illustrated in Table 6-7. Note that the left column of a QSPM consists of key external and internal factors (from Stage 1), and the top row consists of feasible alternative strategies (from Stage 2). Specifically, the left column of a QSPM consists of information obtained directly from the EFE Matrix and IFE Matrix. In a column adjacent to the critical success factors, the respective weights received by each factor in the EFE Matrix and the IFE Matrix are recorded.

The top row of a QSPM consists of alternative strategies derived from the SWOT Matrix, SPACE Matrix, BCG Matrix, IE Matrix, and Grand Strategy Matrix. These matching tools usually generate similar feasible alternatives. However, not every strategy suggested by the matching techniques has to be evaluated in a QSPM. Strategists should use good intuitive judgment in selecting strategies to include in a QSPM.

Conceptually, the QSPM determines the relative attractiveness of various strategies based on the extent to which key external and internal critical success factors are capitalized upon or improved. The relative attractiveness of each strategy within a set of alternatives is computed by determining the cumulative impact of each external and internal critical success factor. Any number of sets of alternative strategies can be included in the QSPM, and any number of strategies can make up a given set, but only strategies within a given set are evaluated relative to each other. For example, one set of strategies may include diversification, whereas another set may include issuing stock and selling a division to raise needed capital. These two sets of strate- gies are totally different, and the QSPM evaluates strategies only within sets. Note in Table 6-7 that three strategies are included, and they make up just one set.

A QSPM for a retail computer store is provided in Table 6-8. This example illustrates all the components of the QSPM: Strategic Alternatives, Key Factors, Weights, Attractiveness Scores (AS), Total Attractiveness Scores (TAS), and the Sum Total Attractiveness Score. The three new

TAble 6-7 The Quantitative Strategic Planning Matrix—QSPM

Strategic Alternatives

Key Factors Weight Strategy 1 Strategy 2 Strategy 3

Key External Factors

Economy

Political/Legal/Governmental

Social/Cultural/Demographic/Environmental

Technological

Competitive

Key Internal Factors

Management

Marketing

Finance/Accounting

Production/Operations

Research and Development

Management Information Systems

192 Part 2 • Strategy Formulation

TAble 6-8 A QSPM for a Retail Computer Store

STRATEGIC ALTERNATIVES

1 2

Buy New Land and Build New Larger Store

Fully Renovate Existing Store

Key Factors Weight AS TAS AS TAS

Opportunities

1. Population of city growing 10% 0.10 4 0.40 2 0.20

2. Rival computer store opening 1 mile away 0.10 2 0.20 4 0.40

3. Vehicle traffic passing store up 12% 0.08 1 0.08 4 0.32

4. Vendors average six new products/year 0.05 — —

5. Senior citizen use of computers up 8% 0.05 — —

6. Small business growth in area up 10% 0.10 — —

7. Desire for websites up 18% by Realtors 0.06 — —

8. Desire for websites up 12% by small firms 0.06 — —

Threats

1. Best Buy opening new store nearby in 1 year 0.15 4 0.60 3 0.45

2. Local university offers computer repair 0.08 — —

3. New bypass for Hwy 34 in 1 year will divert traffic 0.12 4 0.48 1 0.12

4. New mall being built nearby 0.08 2 0.16 4 0.32

5. Gas prices up 14% 0.04 — —

6. Vendors raising prices 8% 0.03 — —

Total 1.00

Strengths

1. Inventory turnover increased from 5.8 to 6.7 0.05 — —

2. Average customer purchase increased from $97 to $128 0.07 2 0.14 4 0.28

3. Employee morale is excellent 0.10 — —

4. In-store promotions resulted in 20% increase in sales 0.05 — —

5. Newspaper advertising expenditures increased 10% 0.02 — —

6. Revenues from repair/service segment of store up 16% 0.15 4 0.60 3 0.45

7. In-store technical support personnel have MIS college degrees 0.05 — —

8. Store’s debt-to-total-assets ratio declined to 34% 0.03 4 0.12 2 0.06

9. Revenues per employee up 19% 0.02 — —

Weaknesses

1. Revenues from software segment of store down 12% 0.10 — —

2. Location of store negatively impacted by new Hwy 34 0.15 4 0.60 1 0.15

3. Carpet and paint in store somewhat in disrepair 0.02 1 0.02 4 0.08

4. Bathroom in store needs refurbishing 0.02 1 0.02 4 0.08

5. Revenues from businesses down 8% 0.04 3 0.12 4 0.16

6. Store has no website 0.05 — —

7. Supplier on-time delivery increased to 2.4 days 0.03 — —

8. Often customers have to wait to check out 0.05 2 0.10 4 0.20

Total 1.00 4.36 3.27

ChaPter 6 • Strategy analySiS and ChoiCe 193

terms just introduced—(1) Attractiveness Scores, (2) Total Attractiveness Scores, and (3) the Sum Total Attractiveness Score—are defined and explained as the six steps required to develop a QSPM are discussed:

Step 1 Make a list of the firm’s key external opportunities/threats and internal strengths/ weaknesses in the left column of the QSPM. This information should be taken directly from the EFE Matrix and IFE Matrix. A minimum of 10 external key suc- cess factors and 10 internal key success factors should be included in the QSPM.

Step 2 Assign weights to each key external and internal factor. These weights are identi- cal to those in the EFE Matrix and the IFE Matrix. The weights are presented in a straight column just to the right of the external and internal critical success factors.

Step 3 Examine the Stage 2 (matching) matrices, and identify alternative strategies that the organization should consider implementing. Record these strategies in the top row of the QSPM. Group the strategies into mutually exclusive sets if possible.

Step 4 Determine the Attractiveness Scores (AS) defined as numerical values that indicate the relative attractiveness of each strategy in a given set of alternatives. Attractiveness Scores (AS) are determined by examining each key external or inter- nal factor, one at a time, and asking the question “Does this factor affect the choice of strategies being made?” If the answer to this question is yes, then the strategies should be compared relative to that key factor. Specifically, Attractiveness Scores should be assigned to each strategy to indicate the relative attractiveness of one strategy over others, considering the particular factor. The range for Attractiveness Scores is 1 = not attractive, 2 = somewhat attractive, 3 = reasonably attractive, and 4 = highly attractive. By attractive, we mean the extent that one strategy, compared to others, enables the firm to either capitalize on the strength, improve on the weak- ness, exploit the opportunity, or avoid the threat. Work row by row in developing a QSPM. If the answer to the previous question is no, indicating that the respective key factor has no effect upon the specific choice being made, then do not assign Attractiveness Scores to the strategies in that set. Use a dash to indicate that the key factor does not affect the choice being made. Note: If you assign an AS score to one strategy, then assign AS score(s) to the other. In other words, if one strategy receives a dash, then all others must receive a dash in a given row.

Step 5 Compute the Total Attractiveness Scores. Total Attractiveness Scores (TAS) are defined as the product of multiplying the weights (Step 2) by the Attractiveness Scores (Step 4) in each row. The Total Attractiveness Scores indicate the relative attractiveness of each alternative strategy, considering only the impact of the adja- cent external or internal critical success factor. The higher the Total Attractiveness Score, the more attractive the strategic alternative (considering only the adjacent critical success factor).

Step 6 Compute the Sum Total Attractiveness Score. Add Total Attractiveness Scores in each strategy column of the QSPM. The Sum Total Attractiveness Scores (STAS) reveal which strategy is most attractive in each set of alternatives. Higher scores indicate more attractive strategies, considering all the relevant external and internal factors that could affect the strategic decisions. The magnitude of the difference between the Sum Total Attractiveness Scores in a given set of strategic alternatives indicates the relative desirability of one strategy over another.

In Table 6-8, two alternative strategies—(1) buy new land and build new larger store and (2) fully renovate existing store—are being considered by a computer retail store. Note by sum total attractiveness scores of 4.63 versus 3.27 that the analysis indicates the business should buy new land and build a new larger store. Note the use of dashes to indicate which factors do not affect the strategy choice being considered. If a particular factor affects one strategy but not the other, it affects the choice being made, so attractiveness scores should be recorded for both strategies. Never rate one strategy and not the other. Note also in Table 6-8 that there are no double 1’s, 2’s, 3’s, or 4’s in a row. Never duplicate scores in a row. Never work column by column; always prepare a QSPM working row by row. If you have more than one strategy in the QSPM, then let

194 Part 2 • Strategy Formulation

TAble 6-9 An Actual QSPM for UPS

Convert All UPS Trucks to Green Technology

Extend UPS Service in Africa

Weight AS TAS AS TAS

Strengths

1. Completed first phase of Worldport expansion, increasing sorting capacity by 15%, going to 37%

0.09 1 0.09 4

0.36

2. 1st major airline to successfully operate a 100% Stage III fleet >3 years in advance of Fed regulations

0.07 1 0.07 4 0.28

3. Five out of every 6 UPS drivers come from part-timeranks (promotion within) 0.07 0 0.00 0 0.00

4. Over 4,000 UPS drivers have driven >25 years without an avoidable accident 0.06 0 0.00 0 0.00

5. Dividend of $0.47 per share paid and increasing 0.06 0 0.00 0 0.00

6. Average daily volume for Next Day Air and Deferred Products increased 2.8% and 4.3% respectively

0.06 3 0.18 4 0.24

7. Have yielded 1.71% cost and production efficiencies, improving profits 0.06 0 0.00 0 0.00

8. Owns 80% of joint venture headquartered in Dubai with 20% option to purchase 0.08 2 0.16 4 0.32

9. Streamlining Domestic Package segment, reducing U.S. regions from 5 to 3 and U.S. Districts from 46 to 20

0.07 0 0.00 0 0.00

10. Purchased 130 hybrid vehicles adding to UPS alternative-fuel vehicle (AFV) fleet 0.07 4 0.28 1 0.07

the AS scores range from 1 to “the number of strategies being evaluated.” This will enable you to have a different AS score for each strategy. These are all important guidelines to follow in develop- ing a QSPM. In actual practice, the store did purchase the new land and build a new store; the busi- ness also did some minor refurbishing until the new store was operational.

There should be a rationale for each AS score assigned. Note in Table 6-8 in the first row that the “city population growing 10 percent annually” opportunity could be capitalized on best by strategy 1, “building the new, larger store,” so an AS score of 4 was assigned to Strategy 1. AS scores, therefore, are not mere guesses; they should be rational, defensible, and reasonable.

An example QSPM for UPS is given in Table 6-9. UPS owns its own airline, based in Louisville, Kentucky. Note in the analysis that UPS is considering converting all its trucks to green technology and also is considering extending services deeper into Africa. Note that the “Africa” strategy is most attractive as indicated by the sum total attractiveness score of 3.78 versus 2.37.

Positive Features and Limitations of the QSPM A positive feature of the QSPM is that sets of strategies can be examined sequentially or simul- taneously. For example, corporate-level strategies could be evaluated first, followed by division- level strategies, and then function-level strategies. There is no limit to the number of strategies that can be evaluated or the number of sets of strategies that can be examined at once using the QSPM.

Another positive feature of the QSPM is that it requires strategists to integrate pertinent ex- ternal and internal factors into the decision process. Developing a QSPM makes it less likely that key factors will be overlooked or weighted inappropriately. A QSPM draws attention to important relationships that affect strategy decisions. Although developing a QSPM requires a number of subjective decisions, making small decisions along the way enhances the probability that the final strategic decisions will be best for the organization. A QSPM can be adapted for use by small and large for-profit and nonprofit organizations so can be applied to virtually any type of organization. A QSPM can especially enhance strategic choice in multinational firms because many key factors and strategies can be considered at once. It also has been applied successfully by a number of small businesses.7

The QSPM is not without some limitations. First, it always requires intuitive judgments and educated assumptions. The ratings and attractiveness scores require judgmental decisions, even though they should be based on objective information. Discussion among strategists, managers, and

ChaPter 6 • Strategy analySiS and ChoiCe 195

Convert All UPS Trucks to Green Technology

Extend UPS Service in Africa

Weight AS TAS AS TAS

Weaknesses

11. Approximately 254,000 UPS employees are members of a union 0.03 0 0.00 0 0.00

12. Approximately 2,800 UPS pilots 0.03 1 0.03 4 0.12

13. Approximately 3,400 UPS truck mechanics 0.03 4 0.12 1 0.03

14. Inability to identify sufficient operating cost savings to result in at least 300 furloughs for airline pilots

0.04 4 0.16 1 0.04

15. Top executives diversity percentage (25%) is low compared to rival firms 0.03 0 0.00 0 0.00

16. Over 4,000 UPS drivers have driven for 25 years or more and are eligible for retirement

0.04 0 0.00 0 0.00

17. Top executives’ tenure 5 years or less 0.03 0 0.00 0 0.00

18. 80% of all U.S. small package delivery services guaranteed 0.02 0 0.00 0 0.00

19. With ~408,000 employees, expenses relating to health and pension benefits are high

0.03 0 0.00 0 0.00

20. 41.7% of top UPS executives have more than one role 0.03 0 0.00 0 0.00

Subtotal 1.00 1.09 1.46

Weight AS TAS AS TAS

Opportunities

1. Europe accounts for ~50% of international revenue 0.04 1 0.04 4 0.16

2. Africa is becoming commercially developed 0.03 1 0.03 4 0.12

3. >24 alliances with Asian delivery companies 0.07 1 0.07 4 0.28

4. International market growing 10% faster than U.S. 0.03 1 0.03 4 0.12

5. Customers outsourcing up to 100% of supply chain to lower costs 0.10 0 0.00 0 0.00

6. Increase internationally in use of wireless access tracking information 0.03 1 0.03 4 0.12

7. Telematics technology in ~12,000 U.S. UPS vehicles 0.03 3 0.09 1 0.03

8. Hybrid vehicles are available to add to UPS alternative fuel vehicle (AFV) fleet 0.06 4 0.24 1 0.06

9. Only 43.2% of employees are not union member 0.07 0 0.00 0 0.00

10. Direct-to-consumer business models require delivery services to be 100% effective

0.03 1 0.03 4 0.12

Weight AS TAS AS TAS

Threats

11. Incurred $77 million foreign currency charge 0.10 1 0.10 4 0.40

12. Jet and diesel fuel price variations cause fuel surcharges (13% increase to a 21.2% decrease)

0.08 2 0.16 4 0.32

13. Adverse currency exchange rate fluctuation (7.2% decline for the year) 0.03 4 0.12 1 0.03

14. FASB guidance requires re-measurement of pension plan = $44 million reduc- tion to earnings

0.04 0 0.00 0 0.00

15. 1% change in health care cost trend = increase in post-retirement benefit obli- gation $83 million

0.06 0 0.00 0 0.00

16. Joint venture partner in Dubai owns 20% put option 0.03 1 0.03 4 0.12

17. Undistributed earnings of non-U.S. subsidiaries ~$2.2 billion 0.05 2 0.10 4 0.20

18. Consumers expect “green business operations” 0.04 4 0.16 1 0.04

19. U.S. unemployment rates holding around 10% 0.03 0 0.00 0 0.00

20. FedEx has greater international presence (27% as compared to UPS 24% of total revenues)

0.05 1 0.05 4 0.20

Subtotal 1.00 1.28 2.32 Grand Total 2.00 2.37 3.78

196 Part 2 • Strategy Formulation

employees throughout the strategy-formulation process, including development of a QSPM, is constructive and improves strategic decisions. Constructive discussion during strategy analysis and choice may arise because of genuine differences of interpretation of information and varying opinions. Another limitation of the QSPM is that it can be only as good as the prerequisite information and matching analyses upon which it is based.

Cultural Aspects of Strategy Choice All organizations have a culture. Culture includes the set of shared values, beliefs, attitudes, cus- toms, norms, personalities, heroes, and heroines that describe a firm. Culture is the unique way an organization does business. It is the human dimension that creates solidarity and meaning, and it inspires commitment and productivity in an organization when strategy changes are made. All human beings have a basic need to make sense of the world, to feel in control, and to make meaning. When events threaten meaning, individuals react defensively. Managers and employ- ees may even sabotage new strategies in an effort to recapture the status quo.

It is beneficial to view strategic management from a cultural perspective because success of- ten rests upon the degree of support that strategies receive from a firm’s culture. If a firm’s strat- egies are supported by cultural products such as values, beliefs, rites, rituals, ceremonies, stories, symbols, language, heroes, and heroines, then managers often can implement changes swiftly and easily. However, if a supportive culture does not exist and is not cultivated, then strategy changes may be ineffective or even counterproductive. A firm’s culture can become antagonistic to new strategies, and the result of that antagonism may be confusion and disarray.

Strategies that require fewer cultural changes may be more attractive because extensive changes can take considerable time and effort. Whenever two firms merge, it becomes especially important to evaluate and consider culture-strategy linkages.

Culture provides an explanation for the difficulties a firm encounters when it attempts to shift its strategic direction, as the following statement explains:

Not only has the “right” corporate culture become the essence and foundation of corpo- rate excellence, but success or failure of needed corporate reforms hinges on manage- ment’s sagacity and ability to change the firm’s driving culture in time and in tune with required changes in strategies.8

The Politics of Strategy Choice All organizations are political. Unless managed, political maneuvering consumes valuable time, subverts organizational objectives, diverts human energy, and results in the loss of some valu- able employees. Sometimes political biases and personal preferences get unduly embedded in strategy choice decisions. Internal politics affect the choice of strategies in all organizations. The hierarchy of command in an organization, combined with the career aspirations of different people and the need to allocate scarce resources, guarantees the formation of coalitions of indi- viduals who strive to take care of themselves first and the organization second, third, or fourth. Coalitions of individuals often form around key strategy issues that face an enterprise. A major responsibility of strategists is to guide the development of coalitions, to nurture an overall team concept, and to gain the support of key individuals and groups of individuals.

In the absence of objective analyses, strategy decisions too often are based on the politics of the moment. With development of improved strategy-formation tools, political factors become less important in making strategic decisions. In the absence of objectivity, political factors some- times dictate strategies, and this is unfortunate. Managing political relationships is an integral part of building enthusiasm and esprit de corps in an organization.

A classic study of strategic management in nine large corporations examined the politi- cal tactics of successful and unsuccessful strategists.9 Successful strategists were found to let weakly supported ideas and proposals die through inaction and to establish additional hurdles or tests for strongly supported ideas considered unacceptable but not openly opposed. Successful strategists kept a low political profile on unacceptable proposals and strived to let most negative

ChaPter 6 • Strategy analySiS and ChoiCe 197

decisions come from subordinates or a group consensus, thereby reserving their personal vetoes for big issues and crucial moments. Successful strategists did a lot of chatting and informal questioning to stay abreast of how things were progressing and to know when to intervene. They led strategy but did not dictate it. They gave few orders, announced few decisions, depended heavily on informal questioning, and sought to probe and clarify until a consensus emerged.

Successful strategists generously and visibly rewarded key thrusts that succeeded. They assigned responsibility for major new thrusts to champions, the individuals most strongly identified with the idea or product and whose futures were linked to its success. They stayed alert to the symbolic impact of their own actions and statements so as not to send false signals that could stimulate movements in unwanted directions.

Successful strategists ensured that all major power bases within an organization were repre- sented in, or had access to, top management. They interjected new faces and new views into con- siderations of major changes. This is important because new employees and managers generally have more enthusiasm and drive than employees who have been with the firm a long time. New employees do not see the world the same old way; nor do they act as screens against changes. Successful strategists minimized their own political exposure on highly controversial issues and in circumstances in which major opposition from key power centers was likely. In combination, these findings provide a basis for managing political relationships in an organization.

Because strategies must be effective in the marketplace and capable of gaining internal commitment, the following tactics used by politicians for centuries can aid strategists:

• Equifinality—It is often possible to achieve similar results using different means or paths. Strategists should recognize that achieving a successful outcome is more important than imposing the method of achieving it. It may be possible to generate new alternatives that give equal results but with far greater potential for gaining commitment.

• Satisfying—Achieving satisfactory results with an acceptable strategy is far better than failing to achieve optimal results with an unpopular strategy.

• Generalization—Shifting focus from specific issues to more general ones may increase strategists’ options for gaining organizational commitment.

• Focus on Higher-Order Issues—By raising an issue to a higher level, many short-term interests can be postponed in favor of long-term interests. For instance, by focusing on is- sues of survival, the airline and automotive industries were able to persuade unions to make concessions on wage increases.

• Provide Political Access on Important Issues—Strategy and policy decisions with signifi- cant negative consequences for middle managers will motivate intervention behavior from them. If middle managers do not have an opportunity to take a position on such decisions in appropriate political forums, they are capable of successfully resisting the decisions after they are made. Providing such political access provides strategists with information that oth- erwise might not be available and that could be useful in managing intervention behavior.10

Governance Issues A “director,” according to Webster’s Dictionary, is “one of a group of persons entrusted with the overall direction of a corporate enterprise.” A board of directors is a group of individuals who are elected by the ownership of a corporation to have oversight and guidance over management and who look out for shareholders’ interests. The act of oversight and direction is referred to as governance. The National Association of Corporate Directors defines governance as “the char- acteristic of ensuring that long-term strategic objectives and plans are established and that the proper management structure is in place to achieve those objectives, while at the same time mak- ing sure that the structure functions to maintain the corporation’s integrity, reputation, and re- sponsibility to its various constituencies.” This broad scope of responsibility for the board shows how boards are being held accountable for the entire performance of the firm. In the Worldcom, Tyco, and Enron bankruptcies and scandals, the firms’ boards of directors were sued by share- holders for mismanaging their interests. New accounting rules in the United States and Europe now enhance corporate-governance codes and require much more extensive financial disclosure among publicly held firms. The roles and duties of a board of directors can be divided into four broad categories, as indicated in Table 6-10.

198 Part 2 • Strategy Formulation

The recent recession and credit crunch prompted shareholders to become more wary of boards of directors. Shareholders of hundreds of firms are demanding that their boards do a better job of governing corporate America.11 New compensation policies are needed as well as direct shareholder involvement in some director activities. For example, boards could require CEOs to groom possible replacements from inside the firm because exorbitant compensation is most often paid to new CEOs coming from outside the firm.

Shareholders are also upset at boards for allowing CEOs to receive huge end-of-year bonuses when the firm’s stock price drops drastically during the year.12 For example, Chesapeake Energy Corp. and its board of directors came under fire from shareholders for paying Chairman and CEO Aubrey McClendon $112 million as the firm’s stock price plummeted. Investor Jeffrey Bronchick wrote in a letter to the Chesapeake board that the CEO’s compensation was a “near perfect illustration of the complete collapse of appropriate corporate governance.”

Until recently, boards of directors did most of their work sitting around polished wooden ta- bles. However, Hewlett-Packard’s directors, among many others, now log on to their own special board website twice a week and conduct business based on extensive confidential briefing in- formation posted there by the firm’s top management team. Then the board members meet face to face and fully informed every two months to discuss the biggest issues facing the firm. Even the decision of whether to locate operations in countries with low corporate tax rates would be reviewed by a board of directors.

Today, boards of directors are composed mostly of outsiders who are becoming more in- volved in organizations’ strategic management. The trend in the United States is toward much

TAble 6-10 Board of Director Duties and Responsibilities

1. CONTROL AND OVERSIGHT OVER MANAGEMENT

a. Select the Chief Executive Officer (CEO). b. Sanction the CEO’s team. c. Provide the CEO with a forum. d. Ensure managerial competency. e. Evaluate management’s performance. f. Set management’s salary levels, including fringe benefits. g. Guarantee managerial integrity through continuous auditing. h. Chart the corporate course. i. Devise and revise policies to be implemented by management.

2. ADHERENCE TO LEGAL PRESCRIPTIONS

a. Keep abreast of new laws. b. Ensure the entire organization fulfills legal prescriptions. c. Pass bylaws and related resolutions. d. Select new directors. e. Approve capital budgets. f. Authorize borrowing, new stock issues, bonds, and so on.

3. CONSIDERATION OF STAKEHOLDERS’ INTERESTS

a. Monitor product quality. b. Facilitate upward progression in employee quality of work life. c. Review labor policies and practices. d. Improve the customer climate. e. Keep community relations at the highest level. f. Use influence to better governmental, professional association, and educational contacts. g. Maintain good public image.

4. ADVANCEMENT OF STOCKHOLDERS’ RIGHTS

a. Preserve stockholders’ equity. b. Stimulate corporate growth so that the firm will survive and flourish. c. Guard against equity dilution. d. Ensure equitable stockholder representation. e. Inform stockholders through letters, reports, and meetings. f. Declare proper dividends. g. Guarantee corporate survival.

ChaPter 6 • Strategy analySiS and ChoiCe 199

greater board member accountability with smaller boards, now averaging 12 members rather than 18 as they did a few years ago. BusinessWeek recently evaluated the boards of most large U.S. companies and provided the following “principles of good governance”:

1. No more than two directors are current or former company executives. 2. The audit, compensation, and nominating committees are made up solely of outside directors. 3. Each director owns a large equity stake in the company, excluding stock options. 4. Each director attends at least 75 percent of all meetings. 5. The board meets regularly without management present and evaluates its own performance

annually. 6. The CEO is not also the chairperson of the board. 7. Stock options are considered a corporate expense. 8. There are no interlocking directorships (where a director or CEO sits on another director’s

board).13

Being a member of a board of directors today requires much more time, is much more difficult, and requires much more technical knowledge and financial commitment than in the past. Jeff Sonnerfeld, associate dean of the Yale School of Management, says, “Boards of directors are now rolling up their sleeves and becoming much more closely involved with management decision making.” Since the Enron and Worldcom scandals, company CEOs and boards are required to personally certify financial statements; company loans to company executives and directors are illegal; and there is faster reporting of insider stock transactions.

Just as directors are beginning to place more emphasis on staying informed about an orga- nization’s health and operations, they are also taking a more active role in ensuring that publicly issued documents are accurate representations of a firm’s status. It is becoming widely recog- nized that a board of directors has legal responsibilities to stockholders and society for all com- pany activities, for corporate performance, and for ensuring that a firm has an effective strategy. Failure to accept responsibility for auditing or evaluating a firm’s strategy is considered a serious breach of a director’s duties. Stockholders, government agencies, and customers are filing legal suits against directors for fraud, omissions, inaccurate disclosures, lack of due diligence, and culpable ignorance about a firm’s operations with increasing frequency. Liability insurance for directors has become exceptionally expensive and has caused numerous directors to resign.

The Sarbanes-Oxley Act resulted in scores of boardroom overhauls among publicly traded companies. The jobs of chief executive and chairman are now held by separate persons, and board audit committees must now have at least one financial expert as a member. Board audit committees now meet 10 or more times per year, rather than three or four times as they did prior to the act. The act put an end to the “country club” atmosphere of most boards and has shifted power from CEOs to directors. Although aimed at public companies, the act has also had a simi- lar impact on privately owned companies.14

In Sweden, a new law has recently been passed requiring 25 percent female representation in boardrooms. The Norwegian government has passed a similar law that requires 40 percent of corporate director seats to go to women. In the United States, women currently hold about 13 percent of board seats at S&P 500 firms and 10 percent at S&P 1,500 firms. The Investor Responsibility Research Center in Washington, D.C., reports that minorities hold just 8.8 per- cent of board seats of S&P 1,500 companies. Progressive firms realize that women and minori- ties ask different questions and make different suggestions in boardrooms than white men, which is helpful because women and minorities comprise much of the consumer base everywhere.

A direct response to increased pressure on directors to stay informed and execute their responsibilities is that audit committees are becoming commonplace. A board of directors should conduct an annual strategy audit in much the same fashion that it reviews the annual financial audit. In performing such an audit, a board could work jointly with operating management and/or seek outside counsel. Boards should play a role beyond that of performing a strategic audit. They should provide greater input and advice in the strategy-formulation process to ensure that strate- gists are providing for the long-term needs of the firm. This is being done through the formation of three particular board committees: nominating committees to propose candidates for the board and senior officers of the firm; compensation committees to evaluate the performance of top executives and determine the terms and conditions of their employment; and audit committees to give board-level attention to company accounting and financial policies and performance.

200 Part 2 • Strategy Formulation

Key terms and concepts Aggressive Quadrant (p. 179) Attractiveness Scores (AS) (p. 193) Board of Directors (p. 197) Boston Consulting Group (BCG) Matrix (p. 182) Business Portfolio (p. 182) Cash Cows (p. 185) Champions (p. 197) Competitive Position (CP) (p. 178) Competitive Quadrant (p. 181) Conservative Quadrant (p. 181) Culture (p. 196) Decision Stage (p. 174) Defensive Quadrant (p. 181) Directional Vector (p. 179) Dogs (p. 185)

Equifinality (p. 197) Financial Position (FP) (p. 178) Governance (p. 197) Grand Strategy Matrix (p. 189) Halo Error (p. 175) Industry Position (IP) (p. 178) Input Stage (p. 174) Internal-External (IE) Matrix (p. 182) Matching (p. 175) Matching Stage (p. 174) Quantitative Strategic Planning Matrix (QSPM) (p. 191) Question Marks (p. 185) Relative Market Share Position (p. 183) SO Strategies (p. 176) Stability Position (SP) (p. 178)

Special Note to Students Your SWOT, SPACE, BCG, IE, GRAND, and QSPM need to be developed accurately, but in cov- ering those matrices in an oral presentation, focus more on the implications of those analyses than the nuts-and-bolts calculations. In other words, as you go through those matrices in a presenta- tion, your goal is not to prove to the class that you did the calculations correctly. They expect ac- curacy and clarity and certainly you should have that covered. It is the implications of each matrix that your audience will be most interested in, so use these Chapter 6 matrices to pave the way for your recommendations with costs, which generally come just a page or two deeper into the proj- ect. A good rule of thumb is to spend at least an equal amount of time on the implications as the actual calculations of each matrix when presented. This approach will improve the delivery aspect of your presentation or paper by maintaining the high interest level of your audience. Focusing on implications rather than calculations will also encourage questions from the audience when you finish. Questions upon completion are a good thing. Silence upon completion is a bad thing, since silence could mean your audience was asleep, disinterested, or did not feel you did a good job.

Conclusion The essence of strategy formulation is an assessment of whether an organization is doing the right things and how it can be more effective in what it does. Every organization should be wary of becoming a prisoner of its own strategy, because even the best strategies become obsolete sooner or later. Regular reappraisal of strategy helps management avoid complacency. Objectives and strategies should be consciously developed and coordinated and should not merely evolve out of day-to-day operating decisions.

An organization with no sense of direction and no coherent strategy precipitates its own demise. When an organization does not know where it wants to go, it usually ends up some place it does not want to be. Every organization needs to consciously establish and communicate clear objectives and strategies.

Modern strategy-formulation tools and concepts are described in this chapter and integrated into a practical three-stage framework. Tools such as the SWOT Matrix, SPACE Matrix, BCG Matrix, IE Matrix, and QSPM can significantly enhance the quality of strategic decisions, but they should never be used to dictate the choice of strategies. Behavioral, cultural, and politi- cal aspects of strategy generation and selection are always important to consider and manage. Because of increased legal pressure from outside groups, boards of directors are assuming a more active role in strategy analysis and choice. This is a positive trend for organizations.

ChaPter 6 • Strategy analySiS and ChoiCe 201

Stars (p. 185) Strategic Position and Action Evaluation (SPACE)

Matrix (p. 178) Strategy-Formulation Framework (p. 174) Strengths-Weaknesses Opportunities-Threats (SWOT)

Matrix (p. 176)

ST Strategies (p. 176) Sum Total Attractiveness Scores (STAS) (p. 193) Total Attractiveness Scores (TAS) (p. 193) WO Strategies (p. 176) WT Strategies (p. 176)

issues for Review and Discussion 1. Rather than developing a QSPM, what is an alternative

procedure for prioritizing the relative attractiveness of alternative strategies?

2. Overlay a BCG Matrix with a Grand Strategy Matrix and discuss similarities in terms of format and implications.

3. Walt Disney’s Board of Directors consists of eight men and five women. Why should a Board not consist of all men, or all women, or all whites, or all minorities?

4. Many multidivisional firms do not report revenues or profits by division or segment in their Form 10K or Annual Report. What are the pros and cons of this management practice? Discuss.

5. Define halo error. How can halo error inhibit selecting the best strategies to pursue?

6. List six drawbacks of using only subjective information in formulating strategies.

7. For a firm that you know well, give an example of SO Strategy, showing how an internal strength can be matched with an external opportunity to formulate a strategy.

8. For a firm that you know well, give an example WT Strategy, showing how an internal weakness can be matched with an external threat to formulate a strategy.

9. List three limitations of the SWOT matrix and analysis. 10. For the following three firms using the given factors,

calculate a reasonable Stability Position (SP) coordinate to go on their SPACE Matrix axis, given what you know about the nature of those industries.

11. Would the angle or degrees of the vector in a SPACE Matrix be important in generating alternative strategies? Explain.

12. On the Competitive Position (CP) axis of a SPACE Matrix, what level of capacity utilization would be neces- sary for you to give the firm a negative 1? Negative 7? Why?

13. If a firm has weak financial position and competes in an unstable industry, in which quadrant will the SPACE vec- tor lie?

14. Describe a situation where the SPACE analysis would have no vector. In other words, describe a situation where the SPACE analysis coordinate would be (0,0). What should an analyst do in this situation?

15. Develop a BCG Matrix for your university. Because your college does not generate profits, what would be a good surrogate for the pie slice values? How many circles do you have and how large are they? Explain.

16. In a BCG Matrix, would the Question Mark quadrant or the Cash Cow quadrant be more desirable? Explain.

17. Would a BCG Matrix and analysis be worth performing if you do not know the profits of each segment? Why?

18. What major limitations of the BCG Matrix does the IE Matrix overcome?

19. In an IE Matrix, do you believe it is more advantageous for a division to be located in quadrant II or IV? Why?

20. Develop a 2 3 2 3 2 QSPM for an organization of your choice (i.e., two strengths, two weaknesses, two oppor- tunities, two threats, and two strategies). Follow all the QSPM guidelines presented in the chapter.

21. Give an example of “equifinality” as defined in the chapter. 22. Do you believe the reasons to disclose by-segment

financial information offset the reasons not to disclose by-segment financial information? Explain why or why not.

23. How would application of the strategy-formulation framework differ from a small to a large organization?

24. What types of strategies would you recommend for an organization that achieves total weighted scores of 3.6 on the IFE and 1.2 on the EFE Matrix?

25. Given the following information, develop a SPACE Matrix for the XYZ Corporation: FP5 1 2; SP 5 2 6; CP5 22; IP5 14.

26. Given the information in the following table, develop a BCG Matrix and an IE Matrix:

Divisions 1 2 3

Profits $10 $15 $25

Sales $100 $50 $100

Relative Market Share 0.2 0.5 0.8

Industry Growth Rate 1.20 1.10 2.10

IFE Total Weighted Scores 1.6 3.1 2.2

EFE Total Weighted Scores 2.5 1.8 3.3

Factors Winnebago Apple U.S. Postal

Service

Barriers to entry into market

Seasonal nature of business

Technological changes SP Score

202 Part 2 • Strategy Formulation

27. Explain the steps involved in developing a QSPM.

28. How would you develop a set of objectives for your school or business?

29. What do you think is the appropriate role of a board of directors in strategic management? Why?

30. Discuss the limitations of various strategy-formulation analytical techniques.

31. Explain why cultural factors should be an important con- sideration in analyzing and choosing among alternative strategies.

32. How are the SWOT Matrix, SPACE Matrix, BCG Matrix, IE Matrix, and Grand Strategy Matrix similar? How are they different?

33. How would for-profit and nonprofit organizations dif- fer in their applications of the strategy-formulation framework?

34. Develop a SPACE Matrix for a company that is weak financially and is a weak competitor. The industry for this company is pretty stable, but the industry’s projected growth in revenues and profits is not good. Label all axes and quadrants.

35. List four limitations of a BCG Matrix. 36. Make up an example to show clearly and completely that

you can develop an IE Matrix for a three-division com- pany, where each division has $10, $20, and $40 in reve- nues and $2, $4, and $1 in profits. State other assumptions needed. Label axes and quadrants.

37. What procedures could be necessary if the SPACE vec- tor falls right on the axis between the Competitive and Defensive quadrants?

38. In a BCG Matrix or the Grand Strategy Matrix, what would you consider to be a rapid market (or industry) growth rate?

39. What are the pros and cons of a company (and country) participating in a Sustainability Report?

40. How did the Sarbanes-Oxley Act of 2002 impact boards of directors?

41. Rank BusinessWeek’s “principles of good governance” from 1 to 14 (1 being most important and 14 least important) to reveal your assessment of these new rules.

42. Why is it important to work row by row instead of column by column in preparing a QSPM?

43. Why should one avoid putting double 4s in a row in pre- paring a QSPM?

44. Envision a QSPM with no weight column. Would that still be a useful analysis? Why or why not? What do you lose by deleting the weight column?

45. Prepare a BCG Matrix for a two-division firm with sales of $5 and $8 versus profits of $3 and $1, respectively. State assumptions for the RMSP and IGR axes to enable you to construct the diagram.

46. Consider developing a before-and-after BCG or IE Matrix to reveal the expected results of your proposed strategies. What limitation of the analysis would this procedure over- come somewhat?

47. If a firm has the leading market share in its industry, where on the BCG Matrix would the circle lie?

48. If a firm competes in a very unstable industry, such as telecommunications, where on the SP axis of the SPACE Matrix would you plot the appropriate point?

49. Why do you think the SWOT Matrix is the most widely used of all strategy matrices?

Notes 1. R. T. Lenz, “Managing the Evolution of the Strategic

Planning Process,” Business Horizons 30, no. 1 (January– February 1987): 37.

2. Robert Grant, “The Resource-Based Theory of Competitive Advantage: Implications for Strategy Formulation,” California Management Review, Spring 1991, 114.

3. Heinz Weihrich, “The TOWS Matrix: A Tool for Situational Analysis,” Long Range Planning 15, no. 2 (April 1982): 61. Note: Although Dr. Weihrich first modi- fied SWOT analysis to form the TOWS matrix, the ac- ronym SWOT is much more widely used than TOWS in practice.

4. Greg Dess, G. T. Lumpkin, and Alan Eisner, Strategic Management: Text and Cases (New York: McGraw-Hill/ Irwin, 2006), 72.

5. Adapted from H. Rowe, R. Mason, and K. Dickel, Strategic Management and Business Policy: A Methodological Approach (Reading, MA: Addison- Wesley, 1982), 155–156.

6. Fred David, “The Strategic Planning Matrix—A Quantitative Approach,” Long Range Planning 19,

no. 5 (October 1986): 102; Andre Gib and Robert Margulies, “Making Competitive Intelligence Relevant to the User,” Planning Review 19, no. 3 (May–June 1991): 21.

7. Fred David, “Computer-Assisted Strategic Planning in Small Businesses,” Journal of Systems Management 36, no. 7 (July 1985): 24–34.

8. Y. Allarie and M. Firsirotu, “How to Implement Radical Strategies in Large Organizations,” Sloan Management Review 26, no. 3 (Spring 1985): 19. Another excellent article is P. Shrivastava, “Integrating Strategy Formulation with Organizational Culture,” Journal of Business Strategy 5, no. 3 (Winter 1985): 103–111.

9. James Brian Quinn, Strategies for Changes: Logical Incrementalism (Homewood, IL: Richard D. Irwin, 1980), 128–145. These political tactics are listed in A. Thompson and A. Strickland, Strategic Management: Concepts and Cases (Plano, TX: Business Publications, 1984), 261.

10. William Guth and Ian MacMillan, “Strategy Implementation Versus Middle Management Self-Interest,” Strategic Management Journal 7, no. 4 (July–August 1986): 321.

ChaPter 6 • Strategy analySiS and ChoiCe 203

11. Joann Lublin, “Corporate Directors’ Group Gives Repair Plan to Boards,” Wall Street Journal, March 24, 2009, B4.

12. Phred Dvorak, “Poor Year Doesn’t Stop CEO Bonuses,” Wall Street Journal, March 18, 2009, B1.

13. Louis Lavelle, “The Best and Worst Boards,” BusinessWeek, October 7, 2002, 104–110.

14. Matt Murray, “Private Companies Also Feel Pressure to Clean Up Acts,” Wall Street Journal, July 22, 2003, B1.

current Readings Buytendijk, Toby Hatch, and Pietro Micheli. “Scenario-Based

Strategy Maps.” Business Horizons 53, no. 4 (July–August 2010): 335–348.

Cooper, Tim, Mark Purdy, and Mark Foster. “A Portfolio Strategy for Locating Operations in the New ‘Multi-Polar World.’ Strategy & Leadership 38, no. 4 (2010): 42.

Dalton, Dan R., and Catherine M. Dalton. “Women and Corporate Boards of Directors: The Promise of Increased, and Substantive, Participation in the Post Sarbanes-Oxley Era.” Business Horizons 53, no. 3 (May–June 2010): 257–268.

Deutsch, Yuval, Thomas Keil, and Tomi Laamanen. “A Dual Agency View of Board Compensation: The Joint Effects of Outside Director and CEO Stock Options on Firm Risk.” Strategic Management Journal 32, no. 2 (February 2011): 212–227.

Fong, Eric A., Vilmos F. Misangyi, and Henry L. Tosi. “The Effect of CEO Pay Deviations on CEO Withdrawal, Firm Size, and Firm Profits.” Strategic Management Journal 31,

no. 6 (June 2010): 629–651. McDonald, Michael L., and James D. Westphal. “A Little

Help Here? Board Control, CEO Identification with the Corporate Elite, and Strategic Help Provided to CEOs at Other Firms.” The Academy of Management Journal 53, no. 2 (April 2010): 343–370.

Pozen, Robert C. “The Case for Professional Boards.” Harvard Business Review, December 2010, 50.

“Succeeding at Succession.” Harvard Business Review, November 2010, 29–35.

Tuggle, Christopher S., Karen Schnatterly, and Richard A. Johnson. “Attention Patterns in the Boardroom: How Board Composition and Processes Affect Discussion of Entrepreneurial Issues.” The Academy of Management Journal 53, no. 3 (June 2010): 550–571.

Walters, Bruce A., Mark Kroll, and Peter Wright. “The Impact of TMT Board Member Control and Environment on Post-IPO Performance.” The Academy of Management Journal 53, no. 3 (June 2010): 572–595.

Assurance of Learning Exercise 6A

Perform a SWOT Analysis for Disney’s Parks & Resorts Business Segment Purpose Each Disney business segment could be required annually to submit a SWOT analysis to corporate top executives who merge divisional analyses into an overall corporate analysis. This exercise will give you practice performing a SWOT analysis. Disney’s Parks & Resorts business segment has grown to encompass the world-class Disney Cruise Line, eight Disney Vacation Club resorts (with more than 100,000 members), Adventures by Disney (immersive Disney-guided travel around the world), and five resort locations (encompassing 11 theme parks, including some owned or co-owned by inde- pendent entities) on three continents: Disneyland Resort, Anaheim, California; Walt Disney World Resort, Lake Buena Vista, Florida; Tokyo Disney Resort, Urayasu, Chiba; Disneyland Resort Paris, Marne La Valle, France; and Hong Kong Disneyland, Penny’s Bay, Lantau Island.

Instructions

Step 1 Review Disney’s Parks & Resorts business segment as described in the Cohesion Case and the company’s most recent Annual Report and Form 10K.

Step 2 Review industry and competitive information pertaining to the Parks & Resorts Disney busi- ness segment, including competitors such as Royal Caribbean and Carnival and rival theme parks such as Sea World, Busch Gardens, and Six Flags.

AssurAnce of LeArning exercises

204 Part 2 • Strategy Formulation

Step 3 Join with two other students in class. Together, develop a SWOT Matrix for Disney’s Parks & Resorts business segment. Follow all the SWOT guidelines provided in the chapter, including (S4,T3)-type notation at the end of each strategy. Include three strategies in each of the four (SO, ST, WT, WO) quadrants. Be specific regarding your strategies, avoiding generic terms such as Forward Integration.

Step 4 Turn in your team-developed SWOT Matrix to your professor for a classwork grade.

Assurance of Learning Exercise 6B

Develop a SWOT Matrix for Walt Disney Purpose The most widely used strategy-formulation technique among U.S. firms is the SWOT Matrix. This exercise requires the development of a SWOT Matrix for Disney. Matching key external and internal factors in a SWOT Matrix requires good intuitive and conceptual skills. You will improve with prac- tice in developing a SWOT Matrix.

Instructions Recall from Assurance of Learning Exercise 1A that you already may have determined Disney’s external opportunities/threats and internal strengths/weaknesses. This information could be used to complete this exercise. Follow the steps outlined as follows:

Step 1 On a separate sheet of paper, construct a large nine-cell diagram that will represent your SWOT Matrix. Appropriately label the cells.

Step 2 Appropriately record Disney’s opportunities/threats and strengths/weaknesses in your diagram.

Step 3 Match external and internal factors to generate feasible alternative strategies for Disney. Record SO, WO, ST, and WT strategies in the appropriate cells of the SWOT Matrix. Use the proper notation to indicate the rationale for the strategies. You do not necessarily have to have strategies in all four strategy cells.

Step 4 Compare your SWOT Matrix to another student’s SWOT Matrix. Discuss any major differences.

Assurance of Learning Exercise 6C

Develop a SPACE Matrix for Disney’s Media Networks Business Segment Purpose Each Disney business segment could be required annually to submit a SPACE analysis to corporate top executives who merge divisional analyses into an overall corporate analysis. This exercise will give you practice performing a SPACE analysis.

A division of Walt Disney is Media Networks, comprising a vast array of broadcast, cable, radio, publishing, and Internet businesses, including: Disney-ABC Television Group, ESPN Inc., Walt Disney Internet Group, ABC-owned television stations, ABC Television Network, ABC Daytime, ABC Entertainment Group, ABC News, the Disney Channel Worldwide, ABC Family and SOAPnet, Disney-ABC Domestic Television and Disney-ABC ESPN Television, Radio Disney Network, and the nonfiction book imprint Hyperion. ESPN is a worldwide leader in sports entertainment.

Instructions

Step 1 Review Disney’s Media Networks business segment as described in the Cohesion Case as well as the company’s most recent Annual Report and Form 10K. Review the division’s financial summary information.

Step 2 Review industry and competitive information pertaining to the Media Networks Disney business segment. A major rival firm is CBS Broadcasting, Inc.

ChaPter 6 • Strategy analySiS and ChoiCe 205

Step 3 Develop a SPACE Matrix for Disney’s Media Networks business segment. Write a one- page Executive Overview summarizing strategies that you recommend for this business segment, given your SPACE analysis. Avoid generic, vague terms such as market development.

Assurance of Learning Exercise 6D

Develop a SPACE Matrix for Walt Disney Purpose Should Disney pursue aggressive, conservative, competitive, or defensive strategies? Develop a SPACE Matrix for Disney to answer this question. Elaborate on the strategic implications of your directional vector. Be specific in terms of strategies that could benefit Disney.

Instructions

Step 1 Join with two other people in class and develop a joint SPACE Matrix for Disney. Step 2 Diagram your SPACE Matrix on the board. Compare your matrix with other team’s

matrices. Step 3 Discuss the implications of your SPACE Matrix.

Assurance of Learning Exercise 6E

Develop a BCG Matrix for Walt Disney Purpose Portfolio matrices are widely used by multidivisional organizations to help identify and select strate- gies to pursue. A BCG analysis identifies particular divisions that should receive fewer resources than others. It may identify some divisions that need to be divested. This exercise can give you practice developing a BCG Matrix.

Instructions

Step 1 Place the following five column headings at the top of a separate sheet of paper: Divisions, Revenues, Profits, Relative Market Share Position, Industry Growth Rate. Down the far left of your page, list Disney’s geographic divisions. Now turn back to the Cohesion Case and find information to fill in all the cells in your data table from page 28.

Step 2 Complete a BCG Matrix for Disney. Step 3 Compare your BCG Matrix to other students’ matrices. Discuss any major differences.

Assurance of Learning Exercise 6F

Develop a QSPM for Walt Disney Purpose This exercise can give you practice developing a Quantitative Strategic Planning Matrix to determine the relative attractiveness of various strategic alternatives.

Instructions

Step 1 Join with two other students in class to develop a joint QSPM for Disney. Step 2 Go to the blackboard and record your strategies and their Sum Total Attractiveness Score.

Compare your team’s strategies and Sum Total Attractiveness Score to those of other teams. Be sure not to assign the same AS score in a given row. Recall that dashes should be inserted all the way across a given row when used.

Step 3 Discuss any major differences.

206 Part 2 • Strategy Formulation

Assurance of Learning Exercise 6G

Formulate Individual Strategies Purpose Individuals and organizations are alike in many ways. Each has competitors, and each should plan for the future. Every individual and organization faces some external opportunities and threats and has some internal strengths and weaknesses. Both individuals and organizations establish objectives and allocate resources. These and other similarities make it possible for individuals to use many strategic- management concepts and tools. This exercise is designed to demonstrate how the SWOT Matrix can be used by individuals to plan their futures. As one nears completion of a college degree and begins interviewing for jobs, planning can be particularly important.

Instructions On a separate sheet of paper, construct a SWOT Matrix. Include what you consider to be your major external opportunities, your major external threats, your major strengths, and your major weaknesses. An internal weakness may be a low grade point average. An external opportunity may be that your university offers a graduate program that interests you. Match key external and internal factors by recording in the appropriate cell of the matrix alternative strategies or actions that would allow you to capitalize upon your strengths, overcome your weaknesses, take advantage of your external opportu- nities, and minimize the impact of external threats. Be sure to use the appropriate matching notation in the strategy cells of the matrix. Because every individual (and organization) is unique, there is no one right answer to this exercise.

Assurance of Learning Exercise 6H

The Mach Test Purpose The purpose of this exercise is to enhance your understanding and awareness of the impact that behav- ioral and political factors can have on strategy analysis and choice.

Instructions

Step 1 On a separate sheet of paper, number from 1 to 10. For each of the 10 statements given as follows, record a 1, 2, 3, 4, or 5 to indicate your attitude,

where 1 = I disagree a lot. 2 = I disagree a little. 3 = My attitude is neutral. 4 = I agree a little. 5 = I agree a lot.

1. The best way to handle people is to tell them what they want to hear. 2. When you ask someone to do something for you, it is best to give the real reason for

wanting it, rather than a reason that might carry more weight. 3. Anyone who completely trusts anyone else is asking for trouble. 4. It is hard to get ahead without cutting corners here and there. 5. It is safest to assume that all people have a vicious streak, and it will come out when

they are given a chance. 6. One should take action only when it is morally right. 7. Most people are basically good and kind. 8. There is no excuse for lying to someone else. 9. Most people forget more easily the death of their father than the loss of their property. 10. Generally speaking, people won’t work hard unless they’re forced to do so.

Step 2 Add up the numbers you recorded beside statements 1, 3, 4, 5, 9, and 10. This sum is Subtotal One. For the other four statements, reverse the numbers you recorded, so a 5 becomes a 1, 4 becomes 2, 2 becomes 4, 1 becomes 5, and 3 remains 3. Then add those four numbers to get Subtotal Two. Finally, add Subtotal One and Subtotal Two to get your Final Score.

ChaPter 6 • Strategy analySiS and ChoiCe 207

Your Final Score Your Final Score is your Machiavellian Score. Machiavellian principles are defined in a diction- ary as “manipulative, dishonest, deceiving, and favoring political expediency over morality.” These tactics are not desirable, are not ethical, and are not recommended in the strategic-management process! You may, however, encounter some highly Machiavellian individuals in your career, so beware. It is important for strategists not to manipulate others in the pursuit of organizational objec- tives. Individuals today recognize and resent manipulative tactics more than ever before. J. R. Ewing (on Dallas, a television show in the 1980s) was a good example of someone who was a high Mach (score over 30). The National Opinion Research Center used this short quiz in a random sample of U.S. adults and found the national average Final Score to be 25.1 The higher your score, the more Machiavellian (manipulative) you tend to be. The following scale is descriptive of individual scores on this test:

• Below 16: Never uses manipulation as a tool. • 16 to 20: Rarely uses manipulation as a tool. • 21 to 25: Sometimes uses manipulation as a tool. • 26 to 30: Often uses manipulation as a tool. • Over 30: Always uses manipulation as a tool.

Test Development The Mach (Machiavellian) test was developed by Dr. Richard Christie, whose research suggests the following tendencies:

1. Men generally are more Machiavellian than women. 2. There is no significant difference between high Machs and low Machs on measures of

intelligence or ability. 3. Although high Machs are detached from others, they are detached in a pathological

sense. 4. Machiavellian scores are not statistically related to authoritarian values. 5. High Machs tend to be in professions that emphasize the control and manipulation of

individuals—for example, law, psychiatry, and behavioral science. 6. Machiavellianism is not significantly related to major demographic characteristics such as

educational level or marital status. 7. High Machs tend to come from a city or have urban backgrounds. 8. Older adults tend to have lower Mach scores than younger adults.2

A classic book on power relationships, The Prince, was written by Niccolo Machiavelli. Several excerpts from The Prince follow:

Men must either be cajoled or crushed, for they will revenge themselves for slight wrongs, while for grave ones they cannot. The injury therefore that you do to a man should be such that you need not fear his revenge.

We must bear in mind … that there is nothing more difficult and dangerous, or more doubtful of success, than an attempt to introduce a new order of things in any state. The innovator has for enemies all those who derived advantages from the old order of things, while those who expect to be benefitted by the new institution will be but lukewarm defenders.

A wise prince, therefore, will steadily pursue such a course that the citizens of his state will always and under all circumstances feel the need for his authority, and will therefore always prove faithful to him.

A prince should seem to be merciful, faithful, humane, religious, and upright, and should even be so in reality, but he should have his mind so trained that, when occasion requires it, he may know how to change to the opposite.3

Notes 1. Richard Christie and Florence Geis, Studies in Machiavellianism (Orlando, FL: Academic

Press, 1970). Material in this exercise adapted with permission of the authors and the Academic Press.

2. Ibid., 82–83. 3. Niccolo Machiavelli, The Prince (New York: The Washington Press, 1963).

208 Part 2 • Strategy Formulation

Assurance of Learning Exercise 6I

Develop a BCG Matrix for My University Purpose Developing a BCG Matrix for many nonprofit organizations, including colleges and universi- ties, is a useful exercise. Of course, there are no profits for each division or department—and in some cases no revenues. However, you can be creative in performing a BCG Matrix. For example, the pie slice in the circles can represent the number of majors receiving jobs upon graduation, the number of faculty teaching in that area, or some other variable that you believe is important to consider. The size of the circles can represent the number of students majoring in particular departments or areas.

Instructions

Step 1 On a separate sheet of paper, develop a BCG Matrix for your university. Include all aca- demic schools, departments, or colleges.

Step 2 Diagram your BCG Matrix on the blackboard. Step 3 Discuss differences among the BCG Matrices on the board.

Assurance of Learning Exercise 6J

The Role of Boards of Directors Purpose This exercise will give you a better understanding of the role of boards of directors in formulating, implementing, and evaluating strategies.

Instructions Identify a person in your community who serves on a board of directors. Make an appointment to interview that person, and seek answers to the following questions. Summarize your findings in a five- minute oral report to the class.

• On what board are you a member? • How often does the board meet? • How long have you served on the board? • What role does the board play in this company? • How has the role of the board changed in recent years? • What changes would you like to see in the role of the board? • To what extent do you prepare for the board meeting? • To what extent are you involved in strategic management of the firm?

Assurance of Learning Exercise 6K

Locate Companies in a Grand Strategy Matrix Purpose The Grand Strategy Matrix is a popular tool for formulating alternative strategies. All organizations can be positioned in one of the Grand Strategy Matrix’s four strategy quadrants. The divisions of a firm likewise could be positioned. The Grand Strategy Matrix is based on two evaluative dimensions: competitive position and market growth. Appropriate strategies for an organization to consider are listed in sequential order of attractiveness in each quadrant of the matrix. This exercise gives you experience using a Grand Strategy Matrix.

ChaPter 6 • Strategy analySiS and ChoiCe 209

Instructions Using the year-end 2010 financial information provided, prepare a Grand Strategy Matrix on a sepa- rate sheet of paper. Write the respective company names in the appropriate quadrant of the matrix. Based on this analysis, what strategies are recommended for each company?

Company

Company Revenue Growth %

Operating Margin % Industry

Industry Revenue Growth %

Operating Margin %

Lockheed Martin 2.90

8.50

Aerospace/Defense 19.30

10.66

Caterpillar 57.20

11.21

Form & Construction Equipment

12.20

8.57

Hershey 11.10

17.79

Confectioners 0.10

12.91

Merck 1.40

21.01

Drug Manufacturers 10.50

11.96

Barnes & Noble 4.10

20.89

Specialty Retailing 5.90

4.32

Source: Based on information at www.finance.yahoo.com on 7-15-11.

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“Notable Quotes” “You want your people to run the business as if it were their own.” —William Fulmer

“Poor Ike; when he was a general, he gave an order and it was carried out. Now, he’s going to sit in that office and give an order and not a damn thing is going to happen.” —Harry Truman

“Changing your pay plan is a big risk, but not changing it could be a bigger one.” —Nancy Perry

“Objectives can be compared to a compass bearing by which a ship navigates. A compass

bearing is firm, but “in actual navigation, a ship may veer off its course for many miles. Without a compass bearing, a ship would neither find its port nor be able to estimate the time required to get there.” —Peter Drucker

“The best game plan in the world never blocked or tackled anybody.” —Vince Lombardi

“Pretend that every single person you meet has a sign around his or her neck that says, ‘Make me feel important.’” —Mary Kay Ash

Chapter ObjeCtives After studying this chapter, you should be able to do the following:

1. Explain why strategy implementation is more difficult than strategy formulation.

2. Discuss the importance of annual objectives and policies in achieving organizational commitment for strategies to be implemented.

3. Explain why organizational structure is so important in strategy implementation.

4. Compare and contrast restructuring and reengineering.

5. Describe the relationships between production/operations and strategy implementation.

6. Explain how a firm can effectively link performance and pay to strategies.

7. Discuss employee stock ownership plans (ESOPs) as a strategic- management concept.

8. Describe how to modify an organizational culture to support new strategies.

assurance of Learning exercise 7a Hershey Company Needs Your Help

assurance of Learning exercise 7b Draw an Organizational Chart Using a Free, Online Template

assurance of Learning exercise 7C Revise Walt Disney’s Organizational Chart

assurance of Learning exercise 7D Do Organizations Really Establish Objectives?

assurance of Learning exercise 7e Understanding My University’s Culture

assuranCe Of Learning exerCises

part 3 strategy impLementatiOn

Implementing Strategies: Management and Operations Issues

7

212 Part 3 • Strategy ImPlementatIon

The strategic-management process does not end upon deciding what strategy or strategies to pursue. There must be a translation of strategic thought into strategic action. This translation is much easier if managers and employees of the firm understand the business, feel a part of the company, and through involvement in strategy-formulation activities have become com- mitted to helping the organization succeed. Without understanding and commitment, strategy- implementation efforts face major problems.

Implementing strategy affects an organization from top to bottom, including all the func- tional and divisional areas of a business. It is beyond the purpose and scope of this text to examine all of the business administration concepts and tools important in strategy implemen- tation. This chapter focuses on management issues most central to implementing strategies in 2012–2013 and Chapter 8 focuses on marketing, finance/accounting, R&D, and management in- formation systems issues. Halliburton Company is an example firm with excellent management practices.

Even the most technically perfect strategic plan will serve little purpose if it is not implemented. Many organizations tend to spend an inordinate amount of time, money, and effort on developing the strategic plan, treating the means and circumstances under which it will be implemented as afterthoughts! Change comes through implementation and evaluation, not through the plan. A technically imperfect plan that is implemented well will achieve more than the perfect plan that never gets off the paper on which it is typed.1

Excellent Strategic Management Showcased

Halliburton Company

Headquartered in Houston, Texas, Halliburton is an $18 billion oil-field services firm that is implementing strategies exceptionally well and generating record profit and revenue increases. Halliburton operates from an excellent Strategic Business Unit (SBU) organizational structure with two segments: 1) Drilling and Evaluation, and 2) Completion and Production. The firm’s SBU organizational chart is illustrated later in this chapter. Note that CEO Lesar also carries the titles President and Chairman of the Board—violating two guidelines in this chapter.

Halliburton’s 2010 revenues increased 22.4 percent to $17.97 bil- lion, while the company’s profits increased an incredible 59.5 percent to $1.84 billion. Company profits for the first three months of 2011 doubled to $511 million from $201 million the prior year, as revenue rose 40 percent to $5.3 billion.

Halliburton’s CEO David Lesar says increasing oil prices are driv- ing up demand for drilling around the world and his firm is investing heavily in new technology for both onshore and offshore drilling. Halliburton’s North American revenue is soaring despite losses from its Gulf of Mexico operations. The company’s revenues and profits from operations in Norway, Algeria, West Africa, Iraq, Brazil, Colombia, and Mexico are increasing nicely. Halliburton emerged from the Gulf of Mexico oil disaster unscathed, even though many experts say the firm was responsible for the failed cement seal that allowed explosive gas to flow into the well and reach the doomed rig.

Founded in 1919, Halliburton is one of the world’s largest pro- viders of products and services to the energy industry, with 58,000 employees in approximately 70 countries. The company serves the up- stream oil and gas industry throughout the lifecycle of the reservoir—

from locating hydrocarbons and manag- ing geological data, to drill- ing and forma- tion evaluation, well construc- tion and com- pletion, and optimizing pro- duction through the life of the field.

To strengthen its presence in the Eastern Hemisphere, Halliburton recently established a second headquarters in Dubai, United Arab Emirates. A primary reason for this move is that Halliburton’s oil and gas customers are moving their focus from the increasingly difficult reserves of the Western Hemisphere to the bounty of the Eastern Hemisphere. This move puts Halliburton closer to key markets and reduces the costs of moving materials, products, tools, and people.

Source: Based on Ryan Dezember, “Halliburton Doubles Net and Plans New Investments,” Wall Street Journal, January 25, 2011, B4. Also, Ben Casselman, “Halliburton Emerges from Gulf Disaster Unscathed,” Wall Street Journal, April 19, 2011, B1. Also, www.halliburton.com.

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The Nature of Strategy Implementation The strategy-implementation stage of strategic management is revealed in Figure 7-1. Successful strategy formulation does not guarantee successful strategy implementation. It is always more difficult to do something (strategy implementation) than to say you are going to do it (strategy formulation)! Although inextricably linked, strategy implementation is fundamentally different from strategy formulation. Strategy formulation and implementation can be contrasted in the following ways:

• Strategy formulation is positioning forces before the action. • Strategy implementation is managing forces during the action. • Strategy formulation focuses on effectiveness. • Strategy implementation focuses on efficiency. • Strategy formulation is primarily an intellectual process. • Strategy implementation is primarily an operational process. • Strategy formulation requires good intuitive and analytical skills. • Strategy implementation requires special motivation and leadership skills. • Strategy formulation requires coordination among a few individuals. • Strategy implementation requires coordination among many individuals.

Figure 7-1

Comprehensive Strategic-Management Model

Strategy Formulation

Strategy Implementation

Strategy Evaluation

Chapter 10: Business Ethics/Social Responsibility/Environmental Sustainability Issues

Chapter 11: Global/International Issues

Measure and Evaluate Performance

Chapter 9

Implement Strategies— Marketing,

Finance, Accounting, R&D,

and MIS Issues Chapter 8

Implement Strategies— Management

Issues Chapter 7

Perform External Audit

Chapter 3

Develop Vision and Mission Statements Chapter 2

Establish Long-Term Objectives Chapter 5

Generate, Evaluate, and Select Strategies Chapter 6

Perform Internal Audit

Chapter 4

Source: Fred R. David, “How Companies Define Their Mission,” Long Range Planning 22, no. 3 (June 1988): 40.

214 Part 3 • Strategy ImPlementatIon

Strategy-formulation concepts and tools do not differ greatly for small, large, for-profit, or nonprofit organizations. However, strategy implementation varies substantially among differ- ent types and sizes of organizations. Implementing strategies requires such actions as altering sales territories, adding new departments, closing facilities, hiring new employees, changing an organization’s pricing strategy, developing financial budgets, developing new employee benefits, establishing cost-control procedures, changing advertising strategies, building new facilities, training new employees, transferring managers among divisions, and building a bet- ter management information system. These types of activities obviously differ greatly among manufacturing, service, and governmental organizations.

Management Perspectives In terms of “Quality of Management,” Fortune in 2011 ranked the following companies as best in the world:

Rank Company

1 McDonald’s

2 ExxonMobil

3* W.W. Grainger

3* Walt Disney

5 U.S. Bancorp

6 Amazon.com

7 Apple

8 Nestlé

9 Nike

10 Occidental Petroleum

Source: Based on: http://money.cnn.com/ magazines/fortune/mostadmired/2011/best_ worst/best5.html

In all but the smallest organizations, the transition from strategy formulation to strategy implementation requires a shift in responsibility from strategists to divisional and functional managers. Implementation problems can arise because of this shift in responsibility, especially if strategy-formulation decisions come as a surprise to middle- and lower-level managers. Managers and employees are motivated more by perceived self-interests than by organizational interests, unless the two coincide. This is a primary reason why divisional and functional man- agers be involved as much as possible in strategy-formulation activities. Of equal importance, strategists should be involved as much as possible in strategy-implementation activities.

As indicated in Table 7-1, management issues central to strategy implementation include establishing annual objectives, devising policies, allocating resources, altering an existing orga- nizational structure, restructuring and reengineering, revising reward and incentive plans, mini- mizing resistance to change, matching managers with strategy, developing a strategy-supportive culture, adapting production/operations processes, developing an effective human resources function, and, if necessary, downsizing. Management changes are necessarily more extensive when strategies to be implemented move a firm in a major new direction.

Managers and employees throughout an organization should participate early and directly in strategy-implementation decisions. Their role in strategy implementation should build upon prior involvement in strategy-formulation activities. Strategists’ genuine personal commitment to implementation is a necessary and powerful motivational force for managers and employees. Too often, strategists are too busy to actively support strategy-implementation efforts, and their lack of interest can be detrimental to organizational success. The rationale for objectives and strategies should be understood and clearly communicated throughout an organization. Major competitors’ accomplishments, products, plans, actions, and performance should be apparent to all organizational members. Major external opportunities and threats should be clear, and managers’ and employees’ questions should be answered. Top-down flow of communication is essential for developing bottom-up support.

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Firms need to develop a competitor focus at all hierarchical levels by gathering and widely distributing competitive intelligence; every employee should be able to benchmark her or his efforts against best-in-class competitors so that the challenge becomes personal. For example, Starbucks Corp. recently instituted “lean production/operations” at its 11,000 U.S. stores. This system eliminates idle employee time and unnecessary employee motions, such as walking, reaching, and bending. Starbucks says 30 percent of employees’ time is motion and the company wants to reduce that. They say “motion and work are two different things.”

Annual Objectives Establishing annual objectives is a decentralized activity that directly involves all managers in an organization. Active participation in establishing annual objectives can lead to acceptance and commitment. Annual objectives are essential for strategy implementation because they (1) represent the basis for allocating resources; (2) are a primary mechanism for evaluating manag- ers; (3) are the major instrument for monitoring progress toward achieving long-term objectives; and (4) establish organizational, divisional, and departmental priorities. Considerable time and effort should be devoted to ensuring that annual objectives are well conceived, consistent with long-term objectives, and supportive of strategies to be implemented. Approving, revising, or rejecting annual objectives is much more than a rubber-stamp activity. The purpose of annual objectives can be summarized as follows:

Annual objectives serve as guidelines for action, directing and channeling efforts and activities of organization members. They provide a source of legitimacy in an enter- prise by justifying activities to stakeholders. They serve as standards of performance. They serve as an important source of employee motivation and identification. They give incentives for managers and employees to perform. They provide a basis for organizational design.2

Clearly stated and communicated objectives are critical to success in all types and sizes of firms. Annual objectives, stated in terms of profitability, growth, and market share by business segment, geographic area, customer groups, and product, are common in organi- zations. Figure 7-2 illustrates how the Stamus Company could establish annual objectives based on long-term objectives. Table 7-2 reveals associated revenue figures that correspond to the objectives outlined in Figure 7-2. Note that, according to plan, the Stamus Company will slightly exceed its long-term objective of doubling company revenues between 2012 and 2014.

Table 7-1 Some Management Issues Central to Strategy Implementation

Establish annual objectives

Devise policies

Allocate resources

Alter an existing organizational structure

Restructure and reengineer

Revise reward and incentive plans

Minimize resistance to change

Match managers with strategy

Develop a strategy-supportive culture

Adapt production/operations processes

Develop an effective human resources function

Downsize and furlough as needed

Link performance and pay to strategies

216 Part 3 • Strategy ImPlementatIon

Figure 7-2

The Stamus Company’s Hierarchy of aims

R&D annual objective

Develop two new products this year that are succesfully marketed.

Production annual objective

Increase production efficiency by 30% this year.

Purchasing Shipping Quality Control

Advertising Promotion Research Public Relations

Auditing Accounting Investments Collections Working Capital

Marketing annual objective

Increase the number of salespeople by 40 this year.

Finance annual objective

Obtain long-term financing of $400,000 in the next six months.

Personnel annual objective

Reduce employee absenteeism from 10% to 5% this year.

LONG-TERM COMPANY OBJECTIVE

Double company revenues in two years through market development and market penetration. (Current revenues are $2 million.)

DIVISION I ANNUAL OBJECTIVE

Increase divisional revenues by 40% this year and 40% next year. (Current revenues are $1 million.)

DIVISION II ANNUAL OBJECTIVE

Increase divisional revenues by 40% this year and 40% next year. (Current revenues are $0.5 million.)

DIVISION III ANNUAL OBJECTIVE

Increase divisional revenues by 50% this year and 50% next year. (Current revenues are $0.5 million.)

Figure 7-2 also reflects how a hierarchy of annual objectives can be established based on an organization’s structure. Objectives should be consistent across hierarchical levels and form a network of supportive aims. Horizontal consistency of objectives is as important as vertical consistency of objectives. For instance, it would not be effective for manufacturing to achieve more than its annual objective of units produced if marketing could not sell the additional units.

Annual objectives should be measurable, consistent, reasonable, challenging, clear, communicated throughout the organization, characterized by an appropriate time dimen- sion, and accompanied by commensurate rewards and sanctions. Too often, objectives are stated in generalities, with little operational usefulness. Annual objectives, such as “to

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improve communication” or “to improve performance,” are not clear, specific, or measurable. Objectives should state quantity, quality, cost, and time—and also be verifiable. Terms and phrases such as maximize, minimize, as soon as possible, and adequate should be avoided.

Annual objectives should be compatible with employees’ and managers’ values and sup- ported by clearly stated policies. More of something is not always better. Improved quality or reduced cost may, for example, be more important than quantity. It is important to tie rewards and sanctions to annual objectives so that employees and managers understand that achieving objectives is critical to successful strategy implementation. Clear annual objectives do not guar- antee successful strategy implementation, but they do increase the likelihood that personal and organizational aims can be accomplished. Overemphasis on achieving objectives can result in undesirable conduct, such as faking the numbers, distorting the records, and letting objectives become ends in themselves. Managers must be alert to these potential problems.

Policies Changes in a firm’s strategic direction do not occur automatically. On a day-to-day basis, poli- cies are needed to make a strategy work. Policies facilitate solving recurring problems and guide the implementation of strategy. Broadly defined, policy refers to specific guidelines, methods, procedures, rules, forms, and administrative practices established to support and encourage work toward stated goals. Policies are instruments for strategy implementation. Policies set boundar- ies, constraints, and limits on the kinds of administrative actions that can be taken to reward and sanction behavior; they clarify what can and cannot be done in pursuit of an organization’s objectives. For example, Carnival’s Paradise ship has a no smoking policy anywhere, anytime aboard ship. It was the first cruise ship to ban smoking comprehensively. Another example of corporate policy relates to surfing the web while at work. About 40 percent of companies to- day do not have a formal policy preventing employees from surfing the Internet, but software is being marketed now that allows firms to monitor how, when, where, and how long various employees use the Internet at work.

Policies let both employees and managers know what is expected of them, thereby increasing the likelihood that strategies will be implemented successfully. They provide a basis for manage- ment control, allow coordination across organizational units, and reduce the amount of time man- agers spend making decisions. Policies also clarify what work is to be done and by whom. They promote delegation of decision making to appropriate managerial levels where various problems usually arise. Many organizations have a policy manual that serves to guide and direct behavior. Wal-Mart has a policy that it calls the “10 Foot” Rule, whereby customers can find assistance within 10 feet of anywhere in the store. This is a welcomed policy in Japan, where Wal-Mart is try- ing to gain a foothold; 58 percent of all retailers in Japan are mom-and-pop stores and consumers historically have had to pay “top yen” rather than “discounted prices” for merchandise.

Policies can apply to all divisions and departments (for example, “We are an equal oppor- tunity employer”). Some policies apply to a single department (“Employees in this department must take at least one training and development course each year”). Whatever their scope and form, policies serve as a mechanism for implementing strategies and obtaining objectives. Policies should be stated in writing whenever possible. They represent the means for carry- ing out strategic decisions. Examples of policies that support a company strategy, a divisional objective, and a departmental objective are given in Table 7-3.

Some example issues that may require a management policy are provided in Table 7-4.

Table 7-2 The Stamus Company’s Revenue Expectations (in $millions)

2012 2013 2014

Division I Revenues 1.0 1.400 1.960

Division II Revenues 0.5 0.700 0.980

Division III Revenues 0.5 0.750 1.125

Total Company Revenues

2.0 2.850 4.065

218 Part 3 • Strategy ImPlementatIon

Table 7-3 A Hierarchy of Policies

Company Strategy Acquire a chain of retail stores to meet our sales growth and profitability objectives.

Supporting Policies 1. “All stores will be open from 8 a.m. to 8 p.m. Monday through Saturday.” (This policy could increase retail sales if stores currently are

open only 40 hours a week.)

2. “All stores must submit a Monthly Control Data Report.” (This policy could reduce expense-to-sales ratios.)

3. “All stores must support company advertising by contributing 5 percent of their total monthly revenues for this purpose.” (This policy could allow the company to establish a national reputation.)

4. “All stores must adhere to the uniform pricing guidelines set forth in the Company Handbook.” (This policy could help assure customers that the company offers a consistent product in terms of price and quality in all its stores.)

Divisional Objective Increase the division’s revenues from $10 million in 2012 to $15 million in 2013.

Supporting Policies 1. “Beginning in January 2012, each one of this division’s salespersons must file a weekly activity report that includes the number of calls

made, the number of miles traveled, the number of units sold, the dollar volume sold, and the number of new accounts opened.” (This policy could ensure that salespersons do not place too great an emphasis in certain areas.)

2. “Beginning in January 2012, this division will return to its employees 5 percent of its gross revenues in the form of a Christmas bonus.” (This policy could increase employee productivity.)

3. “Beginning in January 2012, inventory levels carried in warehouses will be decreased by 30 percent in accordance with a just-in-time (JIT) manufacturing approach.” (This policy could reduce production expenses and thus free funds for increased marketing efforts.)

Production Department Objective Increase production from 20,000 units in 2012 to 30,000 units in 2013.

Supporting Policies 1. “Beginning in January 2012, employees will have the option of working up to 20 hours of overtime per week.” (This policy could mini-

mize the need to hire additional employees.)

2. “Beginning in January 2012, perfect attendance awards in the amount of $100 will be given to all employees who do not miss a workday in a given year.” (This policy could decrease absenteeism and increase productivity.)

3. “Beginning in January 2012, new equipment must be leased rather than purchased.” (This policy could reduce tax liabilities and thus allow more funds to be invested in modernizing production processes.)

Table 7-4 Some Issues That May Require a Management Policy

• To offer extensive or limited management development workshops and seminars

• To centralize or decentralize employee-training activities

• To recruit through employment agencies, college campuses, and/or newspapers

• To promote from within or to hire from the outside

• To promote on the basis of merit or on the basis of seniority

• To tie executive compensation to long-term and/or annual objectives

• To offer numerous or few employee benefits

• To negotiate directly or indirectly with labor unions

• To delegate authority for large expenditures or to centrally retain this authority

• To allow much, some, or no overtime work

• To establish a high- or low-safety stock of inventory

• To use one or more suppliers

• To buy, lease, or rent new production equipment

• To greatly or somewhat stress quality control

• To establish many or only a few production standards

• To operate one, two, or three shifts

• To discourage using insider information for personal gain

• To discourage sexual harassment

• To discourage smoking at work

• To discourage insider trading

• To discourage moonlighting

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Resource Allocation Resource allocation is a central management activity that allows for strategy execution. In organizations that do not use a strategic-management approach to decision making, resource allocation is often based on political or personal factors. Strategic management enables resources to be allocated according to priorities established by annual objectives.

Nothing could be more detrimental to strategic management and to organizational success than for resources to be allocated in ways not consistent with priorities indicated by approved annual objectives.

All organizations have at least four types of resources that can be used to achieve desired objectives: financial resources, physical resources, human resources, and technologi- cal resources. Allocating resources to particular divisions and departments does not mean that strategies will be successfully implemented. A number of factors commonly prohibit effective resource allocation, including an overprotection of resources, too great an emphasis on short-run financial criteria, organizational politics, vague strategy targets, a reluctance to take risks, and a lack of sufficient knowledge.

Below the corporate level, there often exists an absence of systematic thinking about resources allocated and strategies of the firm. Yavitz and Newman explain why:

Managers normally have many more tasks than they can do. Managers must allocate time and resources among these tasks. Pressure builds up. Expenses are too high. The CEO wants a good financial report for the third quarter. Strategy formulation and implementation activities often get deferred. Today’s problems soak up available ener- gies and resources. Scrambled accounts and budgets fail to reveal the shift in allocation away from strategic needs to currently squeaking wheels.3

The real value of any resource allocation program lies in the resulting accomplishment of an organization’s objectives. Effective resource allocation does not guarantee successful strategy implementation because programs, personnel, controls, and commitment must breathe life into the resources provided. Strategic management itself is sometimes referred to as a “resource allocation process.”

Managing Conflict Interdependency of objectives and competition for limited resources often leads to conflict. Conflict can be defined as a disagreement between two or more parties on one or more issues. Establishing annual objectives can lead to conflict because individuals have different expectations and perceptions, schedules create pressure, personalities are incompatible, and misunderstandings between line managers (such as production supervisors) and staff manag- ers (such as human resource specialists) occur. For example, a collection manager’s objective of reducing bad debts by 50 percent in a given year may conflict with a divisional objective to increase sales by 20 percent.

Establishing objectives can lead to conflict because managers and strategists must make trade-offs, such as whether to emphasize short-term profits or long-term growth, profit margin or market share, market penetration or market development, growth or stability, high risk or low risk, and social responsiveness or profit maximization. Trade-offs are necessary because no firm has sufficient resources to pursue all strategies that would benefit the firm. Table 7-5 reveals some important management trade-off decisions required in strategy implementation.

Conflict is unavoidable in organizations, so it is important that conflict be managed and resolved before dysfunctional consequences affect organizational performance. Conflict is not always bad. An absence of conflict can signal indifference and apathy. Conflict can serve to en- ergize opposing groups into action and may help managers identify problems.

Various approaches for managing and resolving conflict can be classified into three catego- ries: avoidance, defusion, and confrontation. Avoidance includes such actions as ignoring the problem in hopes that the conflict will resolve itself or physically separating the conflicting indi- viduals (or groups). Defusion can include playing down differences between conflicting parties while accentuating similarities and common interests, compromising so that there is neither a clear winner nor loser, resorting to majority rule, appealing to a higher authority, or redesigning

220 Part 3 • Strategy ImPlementatIon

present positions. Confrontation is exemplified by exchanging members of conflicting parties so that each can gain an appreciation of the other’s point of view or holding a meeting at which conflicting parties present their views and work through their differences.

Matching Structure with Strategy Changes in strategy often require changes in the way an organization is structured for two major reasons. First, structure largely dictates how objectives and policies will be established. For example, objectives and policies established under a geographic organizational structure are couched in geographic terms. Objectives and policies are stated largely in terms of products in an organization whose structure is based on product groups. The structural format for develop- ing objectives and policies can significantly impact all other strategy-implementation activities.

The second major reason why changes in strategy often require changes in structure is that structure dictates how resources will be allocated. If an organization’s structure is based on customer groups, then resources will be allocated in that manner. Similarly, if an organization’s structure is set up along functional business lines, then resources are allocated by functional areas. Unless new or revised strategies place emphasis in the same areas as old strategies, struc- tural reorientation commonly becomes a part of strategy implementation.

Changes in strategy lead to changes in organizational structure. Structure should be designed to facilitate the strategic pursuit of a firm and, therefore, follow strategy. Without a strategy or reasons for being (mission), companies find it difficult to design an effective struc- ture. Chandler found a particular structure sequence to be repeated often as organizations grow and change strategy over time.

There is no one optimal organizational design or structure for a given strategy or type of organization. What is appropriate for one organization may not be appropriate for a similar firm, although successful firms in a given industry do tend to organize themselves in a similar way. For example, consumer goods companies tend to emulate the divisional structure-by-product form of organization. Small firms tend to be functionally structured (centralized). Medium-sized firms tend to be divisionally structured (decentralized). Large firms tend to use a strategic business unit (SBU) or matrix structure. As organizations grow, their structures generally change from simple to complex as a result of concatenation, or the linking together of several basic strategies.

Numerous external and internal forces affect an organization; no firm could change its structure in response to every one of these forces, because to do so would lead to chaos. However, when a firm changes its strategy, the existing organizational structure may become in- effective. As indicated in Table 7-6, symptoms of an ineffective organizational structure include too many levels of management, too many meetings attended by too many people, too much attention being directed toward solving interdepartmental conflicts, too large a span of control, and too many unachieved objectives. Changes in structure can facilitate strategy-implementation efforts, but changes in structure should not be expected to make a bad strategy good, to make bad managers good, or to make bad products sell.

Table 7-5 Some Management Trade-Off Decisions Required in Strategy Implementation

To emphasize short-term profits or long-term growth

To emphasize profit margin or market share

To emphasize market development or market penetration

To lay off or furlough

To seek growth or stability

To take high risk or low risk

To be more socially responsible or more profitable

To outsource jobs or pay more to keep jobs at home

To acquire externally or to build internally

To restructure or reengineer

To use leverage or equity to raise funds

To use part-time or full-time employees

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Structure undeniably can and does influence strategy. Strategies formulated must be work- able, so if a certain new strategy required massive structural changes it would not be an attractive choice. In this way, structure can shape the choice of strategies. But a more important concern is determining what types of structural changes are needed to implement new strategies and how these changes can best be accomplished. We examine this issue by focusing on seven basic types of organizational structure: functional, divisional by geographic area, divisional by product, divisional by customer, divisional process, strategic business unit (SBU), and matrix.

The Functional Structure The most widely used structure is the functional or centralized type because this structure is the simplest and least expensive of the seven alternatives. A functional structure groups tasks and activities by business function, such as production/operations, marketing, finance/accounting, research and development, and management information systems. A university may structure its activities by major functions that include academic affairs, student services, alumni relations, athletics, maintenance, and accounting. Besides being simple and inexpensive, a functional structure also promotes specialization of labor, encourages efficient use of managerial and technical talent, minimizes the need for an elaborate control system, and allows rapid decision making.

Some disadvantages of a functional structure are that it forces accountability to the top, minimizes career development opportunities, and is sometimes characterized by low employee morale, line/staff conflicts, poor delegation of authority, and inadequate planning for products and markets.

A functional structure often leads to short-term and narrow thinking that may undermine what is best for the firm as a whole. For example, the research and development department may strive to overdesign products and components to achieve technical elegance, while manufactur- ing may argue for low-frills products that can be mass produced more easily. Thus, communica- tion is often not as good in a functional structure. Schein gives an example of a communication problem in a functional structure:

The word “marketing” will mean product development to the engineer, studying cus- tomers through market research to the product manager, merchandising to the sales- person, and constant change in design to the manufacturing manager. Then when these managers try to work together, they often attribute disagreements to personalities and fail to notice the deeper, shared assumptions that vary and dictate how each function thinks.4

Most large companies have abandoned the functional structure in favor of decentraliza- tion and improved accountability. However, a large firm that still successfully uses a functional structure is Nucor Steel, based in Charlotte, North Carolina. Netflix, the company showcased for excellent strategic management in the prior chapter, also operates from a functional structure— as illustrated in Figure 7-3.

Table 7-7 summarizes the advantages and disadvantages of a functional organizational structure.

Table 7-6 Symptoms of an Ineffective Organizational Structure

1. Too many levels of management

2. Too many meetings attended by too many people

3. Too much attention being directed toward solving interdepartmental conflicts

4. Too large a span of control

5. Too many unachieved objectives

6. Declining corporate or business performance

7. Losing ground to rival firms

8. Revenue and/or earnings divided by number of employees and/or number of managers is low compared to rival firms

222 Part 3 • Strategy ImPlementatIon

The Divisional Structure The divisional or decentralized structure is the second most common type used by U.S. businesses. As a small organization grows, it has more difficulty managing different products and services in different markets. Some form of divisional structure generally becomes neces- sary to motivate employees, control operations, and compete successfully in diverse locations. The divisional structure can be organized in one of four ways: by geographic area, by product or service, by customer, or by process. With a divisional structure, functional activities are performed both centrally and in each separate division.

Cisco Systems recently discarded its divisional structure by customer and reorganized into a functional structure. CEO John Chambers replaced the three-customer structure based on big businesses, small businesses, and telecoms, and now the company has five functional executive vice presidents (EVPs). Chambers says the goal was to eliminate duplication, but the change should not be viewed as a shift in strategy. Chambers’s span of control in the new structure is reduced from 15 to 12 managers reporting directly to him.

Sun Microsystems recently reduced the number of its business units from seven to four. Kodak recently reduced its number of business units from seven by-customer divisions to five by-product divisions. As consumption patterns become increasingly similar worldwide, a by-product structure is becoming more effective than a by-customer or a by-geographic type divisional structure. In the restructuring, Kodak eliminated its global operations division and distributed those responsibilities across the new by-product divisions.

A divisional structure has some clear advantages. First and perhaps foremost, accountability is clear. That is, divisional managers can be held responsible for sales and profit levels. Because a divisional structure is based on extensive delegation of authority, managers and employees can easily see the results of their good or bad performances. As a result, employee morale is generally higher in a divisional structure than it is in a centralized structure. Other advantages of

Figure 7-3

Netflix’s Organizational Structure

Reed Hastings, Co-Founder and CEO

Neil Hunt, Chief Product

Officer

David Hyman, General Counsel

and Secretary

Leslie Kilgore, Chief

Marketing Officer

Patty McCord, Chief Talent

Officer

Andrew Rendich, Chief Service

and DVD Operations

Officer

David Wells, Chief Financial

Officer

Ted Sarandos, Chief Content

Officer

Table 7-7 Advantages and Disadvantages of a Functional Organizational Structure

Advantages Disadvantages

1. Simple and inexpensive

2. Capitalizes on specialization of busi- ness activities such as marketing and finance

3. Minimizes need for elaborate control system

4. Allows for rapid decision making

1. Accountability forced to the top

2. Delegation of authority and responsibility not encouraged

3. Minimizes career development

4. Low employee/manager morale

5. Inadequate planning for products and markets

6. Leads to short-term, narrow thinking

7. Leads to communication problems

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the divisional design are that it creates career development opportunities for managers, allows local control of situations, leads to a competitive climate within an organization, and allows new businesses and products to be added easily.

The divisional design is not without some limitations, however. Perhaps the most important limitation is that a divisional structure is costly, for a number of reasons. First, each division requires functional specialists who must be paid. Second, there exists some duplication of staff services, facilities, and personnel; for instance, functional specialists are also needed centrally (at headquarters) to coordinate divisional activities. Third, managers must be well qualified because the divisional design forces delegation of authority; better-qualified individuals require higher salaries. A divisional structure can also be costly because it requires an elaborate, head- quarters-driven control system. Fourth, competition between divisions may become so intense that it is dysfunctional and leads to limited sharing of ideas and resources for the common good of the firm. Table 7-8 summarizes the advantages and disadvantages of divisional organizational structure.

Ghoshal and Bartlett, two leading scholars in strategic management, note the following:

As their label clearly warns, divisions divide. The divisional model fragments companies’ resources; it creates vertical communication channels that insulate business units and prevents them from sharing their strengths with one another. Consequently, the whole of the corporation is often less than the sum of its parts. A final limitation of the divisional design is that certain regions, products, or cus- tomers may sometimes receive special treatment, and it may be difficult to maintain consistent, companywide practices. Nonetheless, for most large organizations and many small firms, the advantages of a divisional structure more than offset the po- tential limitations.5

A divisional structure by geographic area is appropriate for organizations whose strate- gies need to be tailored to fit the particular needs and characteristics of customers in different geographic areas. This type of structure can be most appropriate for organizations that have similar branch facilities located in widely dispersed areas. A divisional structure by geo- graphic area allows local participation in decision making and improved coordination within a region. Hershey Foods is an example company organized using the divisional-by geographic region type of structure. Hershey’s divisions are United States, Canada, Mexico, Brazil, and Other. Analysts contend that this type of structure may not be best for Hershey because consumption patterns for candy are quite similar worldwide. An alternative—and perhaps better—type of structure for Hershey would be divisional by product because the company produces, and sells three types of products worldwide: (1) chocolate, (2) nonchocolate, and (3) grocery.

Coca-Cola Company operates from a divisional-by-geographic region type organizational structure, as illustrated in Figure 7-4.

Table 7-8 Advantages and Disadvantages of a Divisional Organizational Structure

Advantages Disadvantages

1. Accountability is clear

2. Allows local control of local situations

3. Creates career development chances

4. Promotes delegation of authority

5. Leads to competitive climate internally

6. Allows easy adding of new products or regions

7. Allows strict control and attention to products, customers, and/or regions

1. Can be costly

2. Duplication of functional activities

3. Requires a skilled management force

4. Requires an elaborate control system

5. Competition among divisions can become so intense as to be dysfunctional

6. Can lead to limited sharing of ideas and resources

7. Some regions/products/customers may receive special treatment

224 Part 3 • Strategy ImPlementatIon

The divisional structure by product (or services) is most effective for implementing strategies when specific products or services need special emphasis. Also, this type of struc- ture is widely used when an organization offers only a few products or services or when an organization’s products or services differ substantially. The divisional structure allows strict control over and attention to product lines, but it may also require a more skilled manage- ment force and reduced top management control. General Motors, DuPont, and Procter & Gamble use a divisional structure by product to implement strategies. Huffy, the largest bicycle company in the world, is another firm that is highly decentralized based on a divi- sional-by-product structure. Based in Ohio, Huffy’s divisions are the Bicycle division, the Gerry Baby Products division, the Huffy Sports division, YLC Enterprises, and Washington Inventory Service. Harry Shaw, Huffy’s chairman, believes decentralization is one of the keys to Huffy’s success.

Eastman Chemical established a new by-product divisional organizational structure. The company’s two new divisions, Eastman Company and Voridian Company, focus on chemicals and polymers, respectively. The Eastman division focuses on coatings, adhesives, inks, and plastics, whereas the Voridian division focuses on fibers, polyethylene, and other polymers. Microsoft recently reorganized the whole corporation into three large divisions-by-product. Headed by a president, the new divisions are (1) platform products and services, (2) business, and (3) entertainment and devices. The Swiss electrical-engineering company ABB Ltd. recently scrapped its two core divisions, (1) power technologies and (2) automation technologies, and replaced them with five new divisions: (1) power products, (2) power systems, (3) automation products, (4) process automation, and (5) robotics.

When a few major customers are of paramount importance and many different services are provided to these customers, then a divisional structure by customer can be the most effective way to implement strategies. This structure allows an organization to cater effectively to the re- quirements of clearly defined customer groups. For example, book publishing companies often organize their activities around customer groups, such as colleges, secondary schools, and pri- vate commercial schools. Some airline companies have two major customer divisions: passen- gers and freight or cargo services. Utility companies often use (1) commercial, (2) residential, and (3) industrial as their divisions-by-customer.

Merrill Lynch is organized into separate divisions that cater to different groups of custom- ers, including wealthy individuals, institutional investors, and small corporations. Motorola’s semiconductor chip division is also organized divisionally by customer, having three separate segments that sell to (1) the automotive and industrial market, (2) the mobile phone market, and (3) the data-networking market. The automotive and industrial segment is doing well, but the other two segments are faltering, which is a reason why Motorola is trying to divest its semiconductor operations.

Figure 7-4

Coca-Cola Company executive Officers

J. Alexander M. Douglas, Jr., President of the North America

division

Glenn G. Jordan S.,

President of the Pacific division

Dominique Reiniche,

President of the Europe division

Steven A. Cahillane,

President/CEO of Coca-Cola Refreshments

José Octavio Reyes, President

of the Latin America division

Ahmet C. Bozer,

President of the Eurasia and Africa division

Muhtar Kent, President, CEO and Chairman of the Board

Alexander B. Cummings,

Jr., Executive VP and Chief

Administrative Officer

Irial Finan, Executive VP

and President, Bottling

Investments/ Supply Chain

Joseph V. Tripodi,

Executive VP and Chief

Marketing/ Commercial

Officer

Jerry S. Wilson, Senior VP and Chief

Customer and Commercial

Officer

A B.

JJr.,

Ad

Harry L. Anderson,

Senior VP, Global Business and Technology

Services

Geoffrey J. Kelly,

Senior VP and General

Counsel

Guy Wollaert, Senior VP and Chief Technical

Officer

Clyde C. Tuggle, Senior VP,

Global Public Affairs/

Communi- cations

Ingrid Saunders Jones, Senior

VP, Global Community Connections

I Ex

an

In Su

Gary P. Fayard, Executive VP

and Chief Financial Officer

Source: Coke’s 2010 Annual Report.

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A divisional structure by process is similar to a functional structure, because activities are organized according to the way work is actually performed. However, a key difference between these two designs is that functional departments are not accountable for profits or revenues, whereas divisional process departments are evaluated on these criteria. An example of a divi- sional structure by process is a manufacturing business organized into six divisions: electrical work, glass cutting, welding, grinding, painting, and foundry work. In this case, all operations related to these specific processes would be grouped under the separate divisions. Each process (division) would be responsible for generating revenues and profits. The divisional structure by process can be particularly effective in achieving objectives when distinct production processes represent the thrust of competitiveness in an industry. Halliburton’s organizational chart illustrated on the next page features aspects of the division-by-process design.

The Strategic Business Unit (SBU) Structure As the number, size, and diversity of divisions in an organization increase, controlling and evaluating divisional operations become increasingly difficult for strategists. Increases in sales often are not accompanied by similar increases in profitability. The span of control becomes too large at top levels of the firm. For example, in a large conglomerate organization composed of 90 divisions, such as ConAgra, the chief executive officer could have difficulty even remembering the first names of divisional presidents. In multidivisional organizations, an SBU structure can greatly facilitate strategy-implementation efforts. ConAgra has put its many divisions into three primary SBUs: (1) food service (restaurants), (2) retail (grocery stores), and (3) agricultural products.

The SBU structure groups similar divisions into strategic business units and delegates au- thority and responsibility for each unit to a senior executive who reports directly to the chief executive officer. This change in structure can facilitate strategy implementation by improving coordination between similar divisions and channeling accountability to distinct business units. In a 100-division conglomerate, the divisions could perhaps be regrouped into 10 SBUs accord- ing to certain common characteristics, such as competing in the same industry, being located in the same area, or having the same customers.

Two disadvantages of an SBU structure are that it requires an additional layer of manage- ment, which increases salary expenses. Also, the role of the group vice president is often ambig- uous. However, these limitations often do not outweigh the advantages of improved coordination and accountability. Another advantage of the SBU structure is that it makes the tasks of planning and control by the corporate office more manageable.

Citigroup recently reorganized the whole company into two SBUs: (1) Citigroup, which includes the retail bank, the corporate and investment bank, the private bank, and global trans- action services; and (2) Citi Holdings, which includes Citi’s asset management and consumer finance segments, CitiMortgage, CitiFinancial, and the joint brokerage operations with Morgan Stanley. Citigroup’s CEO, Vikram Pandit, says the restructuring will allow the company to reduce operating costs and to divest (spin off) Citi Holdings.

The huge computer firm Dell Inc. recently reorganized into two SBUs. One SBU is Consumer Products and the other is Commercial. As part of its reorganization, Dell deleted the geographic divisions within its Consumer Products segment. However within its Commercial segment, there are now three worldwide units: (1) large enterprise, (2) public sector, and (3) small and midsize businesses. Dell is also closing a manufacturing facility in Austin, Texas, and laying off more employees as the company struggles to compete. Computer prices and demand are falling as competition increases. Atlantic Richfield Fairchild Industries, and Honeywell International are examples of firms that successfully use an SBU-type structure.

As illustrated in Figure 7-5, Sonoco Products Corporation, based in Hartsville, South Carolina, utilizes an SBU organizational structure. Note that Sonoco’s SBUs—Industrial Products and Consumer Products—each have four autonomous divisions that have their own sales, manufacturing, R&D, finance, HRM, and MIS functions.

An excellent example of an SBU organizational chart is the one posted at the Halliburton Company website and shown in Figure 7-6. Note that six division executives report to the Drilling and Evaluation top executive, while four division heads report to the Completion and Production top executive. It is interesting and somewhat unusual that the 10 Halliburton divisions are organized by process rather than by geographic region or product.

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Figure 7-5

Sonoco Products’ Sbu Organizational Chart

Chief Executive Officer

Adhesive Packaging Division

Tubes/ Cores

Division

Paper Division

Reels Division

Flexible Packaging Division

High Density Film

Division

Metal Ends

Division

Rigid Division

Chief Strategy

Officer (CSO)

Chief Finance

Officer (CFO)

Chief Operating

Officer (COO)

Chief Information Officer (CIO)

VP of Human

Resources

VP of Marketing

Industrial Products SBU Consumer Products SBU

Figure 7-6

Halliburton Company’s Sbu Organizational Chart

CEO

COO

Division 1 – Sperry Drilling Division 7 – Completion Tools

Division 8 – Cementing

Division 9 – Production Enhancement

Division 10 – Boots & Coots

SBU1 – Drilling & Evaluation SBU2 – Completion & Production

Division 2 – Fluid Services

Division 3 – Wireline & Perforating

Division 4 – Drill Bits & Services

Division 5 – Landmark Software & Services

Division 6 – Testing & Subsea

Source: Based on http://www.halliburton.com/AboutUs/default.aspx?pageid=2458&navid=966

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The Matrix Structure A matrix structure is the most complex of all designs because it depends upon both vertical and horizontal flows of authority and communication (hence the term matrix). In contrast, functional and divisional structures depend primarily on vertical flows of authority and communication. A matrix structure can result in higher overhead because it creates more management positions. Other disadvantages of a matrix structure that contribute to overall complexity include dual lines of budget authority (a violation of the unity-of-command principle), dual sources of reward and punishment, shared authority, dual reporting channels, and a need for an extensive and effective communication system.

Despite its complexity, the matrix structure is widely used in many industries, including construction, health care, research, and defense. As indicated in Table 7-9, some advantages of a matrix structure are that project objectives are clear, there are many channels of commu- nication, workers can see the visible results of their work, and shutting down a project can be accomplished relatively easily. Another advantage of a matrix structure is that it facilitates the use of specialized personnel, equipment, and facilities. Functional resources are shared in a ma- trix structure, rather than duplicated as in a divisional structure. Individuals with a high degree of expertise can divide their time as needed among projects, and they in turn develop their own skills and competencies more than in other structures.

A typical matrix structure is illustrated in Figure 7-7. Note that the letters (A through Z4) refer to managers. For example, if you were manager A, you would be responsible for financial aspects of Project 1, and you would have two bosses: the Project 1 Manager onsite and the CFO off site.

For a matrix structure to be effective, organizations need participative planning, train- ing, clear mutual understanding of roles and responsibilities, excellent internal communica- tion, and mutual trust and confidence. The matrix structure is being used more frequently by U.S. businesses because firms are pursuing strategies that add new products, customer groups, and technology to their range of activities. Out of these changes are coming product managers, functional managers, and geographic-area managers, all of whom have important strategic responsibilities. When several variables, such as product, customer, technology, geography, functional area, and line of business, have roughly equal strategic priorities, a matrix organization can be an effective structural form.

Some Do’s and Don’ts in Developing Organizational Charts Students analyzing strategic-management cases are often asked to revise and develop a firm’s or- ganizational structure. This section provides some basic guidelines for this endeavor. There are some basic do’s and don’ts in regard to devising or constructing organizational charts, especially for midsize to large firms. First of all, reserve the title CEO for the top executive of the firm. Don’t use the title “president” for the top person; use it for the division top managers if there are divisions within the firm. Also, do not use the title “president” for functional business execu- tives. They should have the title “chief,” or “vice president,” or “manager,” or “officer,” such as “Chief Information Officer,” or “VP of Human Resources.” Further, do not recommend a dual

Table 7-9 Advantages and Disadvantages of a Matrix Structure

Advantages Disadvantages

1. Project objectives are clear

2. Employees can clearly see results of their work

3. Shutting down a project is easily accomplished

4. Facilitates uses of special equipment/ personnel/facilities

5. Functional resources are shared instead of duplicated as in a divisional structure

1. Requires excellent vertical and horizontal flows of communication

2. Costly because creates more manager positions

3. Violates unity of command principle

4. Creates dual lines of budget authority

5. Creates dual sources of reward/punishment

6. Creates shared authority and reporting

7. Requires mutual trust and understanding

228 Part 3 • Strategy ImPlementatIon

title (such as “CEO and president”) for just one executive. The chairman of the board and CEO of Bristol-Myers Squibb, Peter Dolan, recently gave up his title as chairman. However, Pfizer’s CEO, Jeffrey Kindler, recently added chairman of the board to his title when he succeeded Hank McKinnell as chairman of Pfizer’s board. And Comverse Technology recently named Andre Dahan as its president, chief executive officer, and board director. Actually, “chairperson” is much better than “chairman” for this title.

A significant movement began among corporate America in mid-2009 to split the chairper- son of the board and the CEO positions in publicly-held companies.6 The movement includes asking the New York Stock Exchange and Nasdaq to adopt listing rules that would require separate positions. About 37 percent of companies in the S&P 500 stock index have separate positions, up from 22 percent in 2002, but this still leaves plenty of room for improvement. Among European and Asian companies, the split in these two positions is much more common. For example, 79 percent of British companies split the positions, and all German and Dutch companies split the position.

Directly below the CEO, it is best to have a COO (chief operating officer) with any divi- sion presidents reporting directly to the COO. On the same level as the COO and also report- ing to the CEO, draw in your functional business executives, such as a CFO (chief financial officer), VP of human resources, a CSO (chief strategy officer), a CIO (chief information officer), a CMO (chief marketing officer), a VP of R&D, a VP of legal affairs, an investment relations officer, maintenance officer, and so on. Note in Figure 7-8 that these positions are labeled and placed appropriately. Note that a controller and/or treasurer would normally report to the CFO.

Figure 7-7

an example Matrix Structure

CEO

HRMCIOCSOCFOCOO

Project 1 A B C D E F G H I J

Project 2 K L M O P Q R S T

Project 3 U V W X Y Z Z1 Z2 Z3 Z4

Note: Titles spelled out as follows.

Chief Executive Officer (CEO) Chief Finance Officer (CFO) Chief Strategy Officer (CSO) Chief Information Officer (CIO) Human Resources Manager (HRM) Chief Operating Officer (COO) Chief Legal Officer (CLO) Research & Development Officer (R&D) Chief Marketing Officer (CMO) Chief Technology Officer (CTO) Competitive Intelligence Officer (CIO) Maintenance Officer (MO)

CTO MOCMOR&DCLOCIO

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In developing an organizational chart, avoid having a particular person reporting to more than one person in the chain of command. This would violate the unity-of-command principle of management that “every employee should have just one boss.” Also, do not have the CFO, CIO, CSO, human resource officer, or other functional positions report to the COO. All these positions report directly to the CEO.

A key consideration in devising an organizational structure concerns the divisions. Note whether the divisions (if any) of a firm presently are established based upon geography, customer, product, or process. If the firm’s organizational chart is not available, you often can devise a chart based on the titles of executives. An important case analysis activity is for you to decide how the divisions of a firm should be organized for maximum effectiveness. Even if the firm presently has no divisions, determine whether the firm would operate better with divisions. In other words, which type of divisional breakdown do you (or your group or team) feel would be best for the firm in allocating resources, establishing objectives, and devising compensation incentives? This important strategic decision faces many midsize and large firms (and teams of students analyzing a strategic-management case).

As consumption patterns become more and more similar worldwide, the divisional-by- product form of structure is increasingly the most effective. Be mindful that all firms have functional staff below their top executive and often readily provide this information, so be wary of concluding prematurely that a particular firm utilizes a functional structure. If you see the word “president” in the titles of executives, coupled with financial-reporting segments, such as by product or geographic region, then the firm is divisionally structured.

If the firm is large with numerous divisions, decide whether an SBU type of structure would be more appropriate to reduce the span of control reporting to the COO. Note in Figure 7-5 that the Sonoco Products’ strategic business units (SBUs) are based on product groupings. An alternative SBU structure would have been to base the division groupings on

Figure 7-8

Typical Top Managers of a large Firm

CEO

COOCIOHRMCIOCSOCFO

PRESIDENT DIVISION 1

Note: Titles spelled out as follows.

Chief Executive Officer (CEO) Chief Finance Officer (CFO) Chief Strategy Officer (CSO) Chief Information Officer (CIO) Human Resources Manager (HRM) Chief Operating Officer (COO) Chief Legal Officer (CLO) Research & Development Officer (R&D) Chief Marketing Officer (CMO) Chief Technology Officer (CTO) Competitive Intelligence Officer (CIO) Maintenance Officer (MO)

PRESIDENT DIVISION 2

PRESIDENT DIVISION 3

PRESIDENT DIVISION 4

MOCTOCMOR&DCLO

230 Part 3 • Strategy ImPlementatIon

location. One never knows for sure if a proposed or actual structure is indeed most effective for a particular firm. According to Alfred Chandler, declining financial performance signals a need for altering the structure.

Restructuring and Reengineering Restructuring and reengineering are becoming commonplace on the corporate landscape across the United States and Europe. Restructuring—also called downsizing, rightsizing, or delayering—involves reducing the size of the firm in terms of number of employees, number of divisions or units, and number of hierarchical levels in the firm’s organizational structure. This reduction in size is intended to improve both efficiency and effectiveness. Restructuring is con- cerned primarily with shareholder well-being rather than employee well-being.

Recessionary economic conditions forced many European companies to downsize, laying off managers and employees. This practice has historically been rare in Europe. because labor unions and laws required lengthy negotiations or huge severance checks before workers could be terminated. In contrast to the United States, labor union executives of large European firms sit on most boards of directors.

Job security in European companies is slowly moving toward a U.S. scenario, in which firms lay off almost at will. From banks in Milan to factories in Mannheim, European employ- ers are starting to show people the door in an effort to streamline operations, increase efficiency, and compete against already slim and trim U.S. firms. Massive U.S.-style layoffs are still rare in Europe, but unemployment rates throughout the continent are rising quite rapidly. European firms still prefer to downsize by attrition and retirement rather than by blanket layoffs because of culture, laws, and unions.

In contrast, reengineering is concerned more with employee and customer well-being than shareholder well-being. Reengineering—also called process management, process innovation, or process redesign—involves reconfiguring or redesigning work, jobs, and processes for the purpose of improving cost, quality, service, and speed. Reengineering does not usually affect the organizational structure or chart, nor does it imply job loss or employee layoffs. Whereas restructuring is concerned with eliminating or establishing, shrinking or enlarging, and moving organizational departments and divisions, the focus of reengineering is changing the way work is actually carried out. Reengineering is characterized by many tactical (short-term, business- function-specific) decisions, whereas restructuring is characterized by strategic (long-term, af- fecting all business functions) decisions.

Developed by Motorola in 1986 and made famous by CEO Jack Welch at General Electric and more recently by Robert Nardelli, former CEO of Home Depot, Six Sigma is a quality-boosting process improvement technique that entails training several key persons in the firm in the techniques to monitor, measure, and improve processes and eliminate defects. Six Sigma has been widely applied across industries from retailing to financial services. CEO Dave Cote at Honeywell and CEO Jeff Immelt at General Electric spurred accep- tance of Six Sigma, which aims to improve work processes and eliminate waste by training “select” employees who are given judo titles such as Master Black Belts, Black Belts, and Green Belts.

Six Sigma was criticized in a Wall Street Journal article that cited many example firms whose stock price fell for a number of years after adoption of Six Sigma. The technique’s reli- ance on the special group of trained employees is problematic and its use within retail firms such as Home Depot has not been as successful as in manufacturing firms.7

Restructuring Firms often employ restructuring when various ratios appear out of line with competitors as de- termined through benchmarking exercises. Recall that benchmarking simply involves comparing a firm against the best firms in the industry on a wide variety of performance-related criteria. Some benchmarking ratios commonly used in rationalizing the need for restructuring are head- count-to-sales-volume, or corporate-staff-to-operating-employees, or span-of-control figures.

The primary benefit sought from restructuring is cost reduction. For some highly bureaucratic firms, restructuring can actually rescue the firm from global competition and demise. But the downside of restructuring can be reduced employee commitment, creativity, and innovation that

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accompanies the uncertainty and trauma associated with pending and actual employee layoffs. Avon Products restructured in 2011 partly due to corruption investigations in its Russia and Brazil opera- tions. The company reduced its six commercial business units down to two—(1) Developed Markets and (2) Developing Markets—in essence going to a divisional by geographic region type structure. Avon has been reporting lower sales and profits amid missteps in key markets. CEO Andrea Jung is installing five new regional heads and new presidents in Avon’s U.S. and Russia markets.

Another downside of restructuring is that many people today do not aspire to become man- agers, and many present-day managers are trying to get off the management track.8 Sentiment against joining management ranks is higher today than ever. About 80 percent of employees say they want nothing to do with management, a major shift from just a decade ago when 60 to 70 percent hoped to become managers. Managing others historically led to enhanced career mo- bility, financial rewards, and executive perks; but in today’s global, more competitive, restruc- tured arena, managerial jobs demand more hours and headaches with fewer financial rewards. Managers today manage more people spread over different locations, travel more, manage diverse functions, and are change agents even when they have nothing to do with the creation of the plan or disagree with its approach. Employers today are looking for people who can do things, not for people who make other people do things. Restructuring in many firms has made a manager’s job an invisible, thankless role. More workers today are self-managed, entrepreneurs, interpreneurs, or team-managed. Managers today need to be counselors, motivators, financial advisors, and psychologists. They also run the risk of becoming technologically behind in their areas of expertise. “Dilbert” cartoons commonly portray managers as enemies or as morons.

Reengineering The argument for a firm engaging in reengineering usually goes as follows: Many companies historically have been organized vertically by business function. This arrangement has led over time to managers’ and employees’ mind-sets being defined by their particular functions rather than by overall customer service, product quality, or corporate performance. The logic is that all firms tend to bureaucratize over time. As routines become entrenched, turf becomes delineated and defended, and politics takes precedence over performance. Walls that exist in the physical workplace can be reflections of “mental” walls.

In reengineering, a firm uses information technology to break down functional barriers and create a work system based on business processes, products, or outputs rather than on func- tions or inputs. Cornerstones of reengineering are decentralization, reciprocal interdependence, and information sharing. A firm that exemplifies complete information sharing is Springfield Remanufacturing Corporation, which provides to all employees a weekly income statement of the firm, as well as extensive information on other companies’ performances.

The Wall Street Journal noted that reengineering today must go beyond knocking down in- ternal walls that keep parts of a company from cooperating effectively; it must also knock down the external walls that prohibit or discourage cooperation with other firms—even rival firms.9 A maker of disposable diapers echoes this need differently when it says that to be successful “co- operation at the firm must stretch from stump to rump.”

Hewlett-Packard is a good example of a company that has knocked down the external bar- riers to cooperation and practices modern reengineering. The HP of today shares its forecasts with all of its supply-chain partners and shares other critical information with its distributors and other stakeholders. HP does all the buying of resin for its many manufacturers, giving it a vol- ume discount of up to 5 percent. HP has established many alliances and cooperative agreements of the kind discussed in Chapter 5.

A benefit of reengineering is that it offers employees the opportunity to see more clearly how their particular jobs affect the final product or service being marketed by the firm. However, reengineering can also raise manager and employee anxiety, which, unless calmed, can lead to corporate trauma.

Linking Performance and Pay to Strategies With so many people out of work and executive salaries so large, politicians are more and more giving shareholders greater control over executive pay. The new Dodd-Frank Wall Street Reform and Consumer Protection Act grants shareholders advisory votes on compensation. A recent

232 Part 3 • Strategy ImPlementatIon

Bloomberg Businessweek article says companies should install five policies to improve their compensation practices:

1. Provide full transparency to all stakeholders. Novartis does an excellent job on this. 2. Reward long-term performance with long-term pay, rather than annual incentives.

ExxonMobil does an excellent job on this. 3. Base executive compensation on actual company performance, rather than on stock price.

Target, for example, bases executive pay on same-store sales growth rather than stock price. 4. Extend the time-horizon for bonuses. Replace short-term with long-term incentives.

Goldman Sachs does an excellent job on this. 5. Increase equity between workers and executives. Delete many special perks and benefits

for executives. Be more consistent across levels, although employees with greater responsi- bility must receive greater compensation.10

CEOs at Japanese companies with more than $10 billion in annual revenues are paid about $1.3 million annually, including bonuses and stock options.11 This compares to an average CEO pay among European firms of $6 million and an average among U.S. firms of $12 million. As firms acquire other firms in other countries, these pay differences can cause resentment and even turmoil. Larger pay packages of American CEOs are socially less acceptable in many other countries. For example, in Japan, seniority rather than performance has been the key factor in determining pay, and harmony among managers is emphasized over individual excellence.

How can an organization’s reward system be more closely linked to strategic performance? How can decisions on salary increases, promotions, merit pay, and bonuses be more closely aligned to support the long-term strategic objectives of the organization? There are no widely ac- cepted answers to these questions, but a dual bonus system based on both annual objectives and long-term objectives is becoming common. The percentage of a manager’s annual bonus attrib- utable to short-term versus long-term results should vary by hierarchical level in the organiza- tion. A chief executive officer’s annual bonus could, for example, be determined on a 75 percent short-term and 25 percent long-term basis. It is important that bonuses not be based solely on short-term results because such a system ignores long-term company strategies and objectives.

One result of the global recession was that companies instituted policies to allow their shareholders to vote on executive compensation policies. Aflac was the first U.S. corporation to voluntarily give shareholders an advisory vote on executive compensation. Aflac did this back in 2007. Apple did this in 2008, as did H&R Block. Several companies that instituted say-on- pay policies more recently were Ingersoll-Rand, Verizon, Motorola, Occidental Petroleum, and Hewlett-Packard. These new policies underscore how the financial crisis and shareholder out- rage about top executive pay has affected compensation practice. None of the shareholder votes are binding on the companies, however, at least not so far. The U.S. House of Representatives recently passed a bill to formalize this shareholder tactic, which is gaining steam across the country as a means to combat exorbitant executive pay.

In an effort to cut costs and increase productivity, more and more Japanese companies are switching from seniority-based pay to performance-based approaches. Toyota has switched to a full merit system for 20,000 of its 70,000 white-collar workers. Fujitsu, Sony, Matsushita Electric Industrial, and Kao also have switched to merit pay systems. This switching is hurting morale at some Japanese companies, which have trained workers for decades to cooperate rather than to compete and to work in groups rather than individually.

Richard Brown, CEO of Electronic Data Systems (EDS), once said,

You have to start with an appraisal system that gives genuine feedback and differenti- ates performance. Some call it ranking people. That seems a little harsh. But you can’t have a manager checking a box that says you’re either stupendous, magnificent, very good, good, or average. Concise, constructive feedback is the fuel workers use to get better. A company that doesn’t differentiate performance risks losing its best people.12

Profit sharing is another widely used form of incentive compensation. More than 30 percent of U.S. companies have profit sharing plans, but critics emphasize that too many factors affect profits for this to be a good criterion. Taxes, pricing, or an acquisition would wipe out profits, for example. Also, firms try to minimize profits in a sense to reduce taxes.

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General Motors paid its 45,000 hourly workers in the United States $3,000 each in profit-sharing payouts in 2011, the largest amo