McGraw-Hill/Irwin
CHAPTER
6
Copyright © 2013 by The McGraw-Hill Companies, Inc. All rights reserved.

Part 2 Strategy Formulation
6 –2

LO 6-1 Define business-level strategy and describe how it determines a firm’s strategic position.
LO 6-2 Examine the relationship between value drivers and differentiation strategy.
LO 6-3 Examine the relationship between cost drivers and cost-leadership strategy.
LO 6-4 Assess the benefits and risks of cost-leadership and differentiation business strategies visà-vis the five forces that shape competition.
LO 6-5 Explain why it is difficult to succeed at an integration strategy.
LO 6-6 Evaluate value and cost drivers that may allow a firm to pursue an integration strategy.
LO 6-7 Describe and evaluate the dynamics of competitive positioning.
6 –3

Chapter Case 6
Trimming Fat at Whole Foods Market
• Whole Foods…Business Strategy Revitalization
 Started as small natural-foods store 1980
 Became market leader; differentiation through organics and quality
 Competitive advantage through 2008
• CEO John Mackey: Refocused Mission, Reduced Costs
6 –4

• A business-level strategy is an integrated and coordinated set of commitments and actions designed to provide value to customers and gain a competitive advantage by utilizing core competencies in specific individual product markets.
6 –5

• Answer the “Who, What, Why, and How”
 Who - which customer segments to serve?
 What needs, wishes, desires will we satisfy?
 Why do we want to satisfy them?
 How will we satisfy customers’ needs?
• Details actions managers take in quest for competitive advantage
 Single product or group of similar products
6 –6

EXHIBIT 6.1
Industry and Firm Effects Jointly
Determine Competitive Advantage
6 –8

• Two fundamental questions:
 How do you generate advantage?
 How do you sustain advantage?
• Key idea for sustainability is “ barriers to imitation.”
 How long will it be before the first rival imitates the first mover?
 How fast does new imitation occur once it starts?
 These two factors determine appropriability
.
6 –9

• Does market share generate competitive advantage?
 The computer industry is an excellent example of the lack of correspondence between market share and profit rates.
IBM was a clear market leader in terms of market share but had only mediocre economic performance relative to its rivals. High market share is no guarantee of high rates of profitability.
6 –10

• Does market share generate competitive advantage?
 Perhaps high market share causes high profit rates.
 But it could equally well be that there is a third factor
(e.g., good service capabilities at Caterpillar), unobserved by us, that causes both high profitability and high market share.
 In this case, we would see a correlation between profitability and market share but no causal explanation .

• When can market share work to generate and sustain an advantage?
 Scale economies combined with high exit costs may make market share a defensible advantage.
6 –12

Costly Duplication due to:
 Historical Conditions;
 Uncertainty;
 Social Complexity; and
 Property Rights Protection.
6 –13

• An organization’s knowledge or expertise can lead to sustainable advantage if:
 The knowledge is tacit rather than articulable;

Tacit Knowledge: “We know more than we can tell.”

Tacit Skills: Riding a bike, swimming, “learning by doing,” which is critical for maintaining a manufacturing base
 The knowledge is not observable in use;
 The knowledge is (socially) complex, rather than simple.
6 –14

• Determined by Firm’s Business-Level Strategy
 Two primary competitive levers:
 Value (V)
 Cost (C)
• Economic Value Created: (V-C)
 The greater (V-C) = Competitive Advantage
• Strategic Position Based on :
 Value creation
 Cost
6 –15

Competitive
Advantage
Cost
Advantage
Similar Product
At Lower Cost
Price Premium
From Unique Product
Differentiation
Advantage
6 –16

EXHIBIT 6.2
Strategic Position and Competitive Scope:
Generic Business Strategies
6 –17

LO 6-1 Define businesslevel strategy and describe how it determines a firm’s strategic position.
LO 6-2 Examine the relationship between value drivers and differentiation strategy.
LO 6-3 Examine the relationship between cost drivers and cost-leadership strategy.
LO 6-4 Assess the benefits and risks of cost-leadership and differentiation business strategies visà-vis the five forces that shape competition.
LO 6-5 Explain why it is difficult to succeed at an integration strategy.
LO 6-6 Evaluate value and cost drivers that may allow a firm to pursue an integration strategy.
LO 6-7 Describe and evaluate the dynamics of competitive positioning.
6 –18

$
Types of Competitive Advantage
Buyer value generated (willingness to pay)
Costs incurred (including opportunity cost of capital)
Value
Created
Industry average competitor
Successful differentiated competitor
Successful low-cost competitor
Competitor with dual advantage
© 2005 Mara Lederman, Rotman School of Management

• Differentiation Advantage , a concept developed by economist Joan Robinson , occurs when a firm is able to obtain from its differentiation a price premium in the market which exceeds the cost of providing differentiation.
6 –22

EXHIBIT 6.3
• Differentiation:
 Product features, customer service, customization, and complements
 Competitive advantage = economic value created (V-C) > competitors
 Marriott line of Hotels
6 –23

STRATEGY HIGHLIGHT 6.1
Toyota: From “Perfect Recall” to “Recall Nightmare”
• Toyota’s strategic challenges….
 Launched Lexus 1989
 Luxury car segment dominated by Mercedes-Benz, BMW, Cadillac
 LS400 line required recall a little over a year after launch
 Turned threat into opportunity to establish reputation for superior customer service
 Two years after launch Lexus ranked first on quality and customer satisfaction by J.D. Powers
 2010 Toyota has largest recall in automotive history
 Needed to exhibit superior customer responsiveness again
 8 million vehicles recalled was much more challenging
1 –24

EXHIBIT 6.4
• Cost Leadership:
 Cost of input factors, economies of scale, and learning-curve and experience-curve effects
 Competitive advantage = economic value created (V-C) > competitors
 Walmart vs. Kmart
 Dell vs. Compaq, Gateway, & HP
6 –25

STRATEGY HIGHLIGHT 6.2
Ryanair: Lower Cost than the
Low-Cost Leader!
• The “Southwest Airlines of Europe”
 “Lowest-cost airline in the world”

No window shades on older planes, seats don’t recline, etc.
 Fares as low as $8
 Numerous fees and surcharges: pillows, blankets, check-in, etc.
 20+% of revenues flow from ancillary services
1 –26

1 Bottle of Water,
$3.50 Ad Revenue, $2 Ticket Price, $8
Priority Boarding, $4
Pillow & Blanket, $5
Subsidy from More
Expensive Flights,
$5.50
Credit Card Fee, $6
Online Check-in, $7.50
Checking Two Bags,
$45
6 –27

EXHIBIT 6.5
Economies of Scale and Diseconomies of Scale

30

Box 2 x 2 x 2
Volume 8
Box 3 x 3 x 3
Volume 27
• Cube-Square Rule:
 Each dimension increases 50% (2 goes to 3) BUT
 Each volume increases 237.5% (8 goes to 27) !!
6 –31

 Need less time to instruct workers
 Workers become more skillful in their movements
 Develop better operation sequences
 Machines and tooling are continually improved
 Rejections and rework decrease
 Management controls improved
 Engineering changes become less frequent
 Cost-effective improvements in product design
 Enriched knowhow in managing and operating business
 More efficient inventory handling and distribution methods
6 –32

 Copying and reverse engineering of products;
 Hiring a competitor’s employees;
 Purchasing the know-how from consultants;
 Obtaining the know-how from customers;
 Experience advantages are often nullified by product obsolences and innovations.
6 –33

• The following discussion and applications focus on direct labor hours per unit, although we could as easily have used costs. In developing a learning curve, we make these assumptions:
 Direct labor requirements will decrease at a declining rate as cumulative production increases.
 The reduction in time will follow an exponential curve. In other words, the production time per unit is reduced by a fixed percentage each time production is doubled. We can use a logarithmic model to draw a learning curve. The direct labor required for the nth unit, k n
, is
• k n
= k
1 n b where
• k
1
= direct labor hours for the first unit
• n = cumulative number of units produced
• b = log r/log 2
• r = learning rate
6 –34

• Example: The Bellweather Company has a contract for 60 portable electric generators. The labor-hour requirement for manufacturing the first unit is 100. With that as given, Bellweather planners develop an aggregate capacity plan using learning-curve calculations. They use a 90 percent learning curve, based on previous experience with generator contracts .
• The labor requirement for the second generator is:
• k
2
= k
1 n b
• = 100 (2) log 0.9/log 2
• = 100 (2) -.152
• = 100 (.9) = 90 hours
• This result for the second unit, 90, is expected, since for a 90% learning curve there is a 10% percent learning between doubled quantities.
6 –35

• Example: The Bellweather Company
 For the 8th unit,
 = 100 (8) -.152
= 100 (0.729) = 72.9 hours
 This result is also obtained by 100 (.9) (.9) (.9) =
72.9 hours.
• Learning curves can be used for:
 Bid Preparation
 Financial Planning
 Production Scheduling
6 –36

Aircraft Assembly (1925-57): 80%
Calculator (1975-78): 74%

EXHIBIT 6.6
Gaining Competitive Advantage Through
Learning and Experience Curves
6 –38

LO 6-1 Define businesslevel strategy and describe how it determines a firm’s strategic position.
LO 6-2 Examine the relationship between value drivers and differentiation strategy.
LO 6-3 Examine the relationship between cost drivers and cost-leadership strategy.
LO 6-4 Assess the benefits and risks of cost-leadership and differentiation business strategies vis-
à-vis the five forces that shape competition.
LO 6-5 Explain why it is difficult to succeed at an integration strategy.
LO 6-6 Evaluate value and cost drivers that may allow a firm to pursue an integration strategy.
LO 6-7 Describe and evaluate the dynamics of competitive positioning.
6 –39

EXHIBIT 6.7
Competitive Positioning and the Five Forces
6 –40

LO 6-1 Define businesslevel strategy and describe how it determines a firm’s strategic position.
LO 6-2 Examine the relationship between value drivers and differentiation strategy.
LO 6-3 Examine the relationship between cost drivers and cost-leadership strategy.
LO 6-4 Assess the benefits and risks of cost-leadership and differentiation business strategies visà-vis the five forces that shape competition.
LO 6-5 Explain why it is difficult to succeed at an integration strategy.
LO 6-6 Evaluate value and cost drivers that may allow a firm to pursue an integration strategy.
LO 6-7 Describe and evaluate the dynamics of competitive positioning.
6 –41

EXHIBIT 6.8
Avon Pursuing an Integration Strategy
6 –42

EXHIBIT 6.9
6 –43

• Conglomerates can coordinate above the SBU level
 Tata Group from India
 2008 bought Jaguar & Land Rover
– Prestigious differentiated products
 2009 Tata Motors creates a Nano car
– Lowest-priced car in the world!
– Zero to 60 mph in 30 seconds
– No radio or glove box
– Targets bicyclists to move to cars
6 –44

LO 6-1 Define businesslevel strategy and describe how it determines a firm’s strategic position.
LO 6-2 Examine the relationship between value drivers and differentiation strategy.
LO 6-3 Examine the relationship between cost drivers and cost-leadership strategy.
LO 6-4 Assess the benefits and risks of cost-leadership and differentiation business strategies visà-vis the five forces that shape competition.
LO 6-5 Explain why it is difficult to succeed at an integration strategy.
LO 6-6 Evaluate value and cost drivers that may allow a firm to pursue an integration strategy.
LO 6-7 Describe and evaluate the dynamics of competitive positioning.
6 –45

The Dynamics of Competitive Positioning
• Strategic Positions need to change over time
 eBay withdrew from selling new goods & sold Skype
• Productivity Frontier
 Value-cost relationship
 Captures the best practices at a point in time
• Mobile Devices
 2005 – Apple differentiator, Dell cost leader
 2010 – Apple still differentiator, HP moving to successful integrator, Dell shifting toward integrator
6 –46

EXHIBIT 6.10
The Dynamics of Competitive
Positioning: Apple, HP, and Dell
6-47

6 –48