Chapter 2 --Market Imperfections
and Value: Strategy Matters
 Conditions
necessary for a perfectly competitive
product market and resource market:
 No
market power
no producer is large enough to influence prices
 Identical product
 Identical cost
 No restrictions on entry or exit
 Complete information
like information and expectations
Sustainable Competitive
Advantage
 Sustainable
competitive advantage is the
elimination of perfect competition for a
sustainable period of time so as to provide
economic profit
 Depends on:
 Industry
characteristics
 Company actions
Product features or cost advantages
Assessing the Industry -Porter’s Five Forces
 Threat
of new entries
 Bargaining power of buyers
 Bargaining power of suppliers
 Threat of substitutes
 Rivalry among existing firms
Competitive Strategy. Free Press, 1980
Ways to Reduce the Threat of
New Entries
 Economies
of scale
 Patents, copyrights, & trade secrets
 Regulation
 Switching cost to customer
 Stability of demand
 Time needed to add capacity
 Customer loyalty
Ways to Decrease the
Bargaining Power of Buyers
 Product
differentiation
 Information available to buyers
 Customer interest in features vs. price
 Price as a percent of buyer’s income
 Switching costs for buyer
 Difficulty of copying product advantages
Factors Influencing the Bargaining
Power of Suppliers
 Five
factors in the market for inputs
 Threat
of new suppliers entering
 Bargaining power with regard to our suppliers
 Bargaining power of our suppliers
 Threat that we will switch to substitute inputs
 Rivalry among existing suppliers
 Threat
of vertical integration
Threat of Substitutes
 Examples
include:
 Drive
vs. fly
 Oil vs. gas heat
 Chicken vs. beef
 Home equity loan vs. auto loan
 The
closer the substitutes, the more limited
the power of the seller
Rivalry Among Firms
 Goals
of competitors
 Profit
vs. size, for example
 Strength
of competitors
 Cost
advantage or disadvantage
 Financial strength
 Intelligence
of competitors
Creating Competitive
Advantage on 3 Fronts
 Change
or take advantage of some industry
characteristics or market imperfection
 Create
 Create
barriers to entry
some form of product advantage
 Distribution
 Create
advantage
some form of cost advantage
 Pricing
strategy
 Information management
Using Strategy to Create Wealth
 Steps
to strategic planning
 Establish
goals
 Assess the environment -- opportunities and threats
 Assess the organization -- strengths and weaknesses
 Develop a strategy
 Develop operating processes that support the strategy -marketing, distribution, production, capital budgeting, financing
 Implement, monitor and control
 Evaluate and reward
Summary




Wealth creation is impossible in a perfect market
Porter’s five forces can be used to evaluate the industries
in which the firm operates or plans to to enter
A strategy should be developed that allows the firm to
utilize market imperfections to establish a sustainable
competitive and consequently an economic profit or
positive net present value
Economic profit comes from competitive advantage in:
 Dealing with customers
 Dealing with financial markets