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in Company. All rights reserved.
CHAPTER
1
The Strategic Management Process
SYNOPSIS OF CHAPTER
This is an introductory chapter. Its purpose is to define critical concepts and introduce the
main components of the
strategic management process. The chapter se
rves to establish the context within which subsequent chapters fit.
This chapter begins with a discussion of the concept of strategy. The strategies an
organization pursues have a
major impact upon its performance relative to its peers. The firm’s top mana
gers have direct responsibility for
choosing strategies that will lead to superior performance and provide competitive
advantage.
Next, the chapter equates superior performance with profitability, for profit
seeking enterprises. Sustained
competitive advan
tage occurs when a firm is able to maintain above
average profitability over an extended period
of time. Strategic management is just as crucial to nonprofits as it is to profit
seeking businesses.
A discussion of the roles of strategic managers and the fu
nction of strategic leadership in an organization follows.
It examines the roles and responsibilities of strategic managers at three main levels within
an organization: the
corporate, business, and functional level. It also points out the attributes of sou
nd strategic leadership.
The chapter gives an overview of the formal strategic management process. The process
consists of two phases.
The first phase, formulation, includes the establishment of corporate mission, values, and
goals; analysis of the
externa
l environment; analysis of the internal environment; and selection of an appropriate
functional
, business
-
,
or corporate
level strategy. The second phase, implementation, consists of the actions taken to carry out
the
chosen strategy.
The traditional conc
ept of the strategic planning process is one that is rational and deterministic, and
orchestrated
by senior managers. However, strategies may also emerge through other mechanisms.
Next, the chapter presents a discussion of strategic planning in practice. F
ormal planning helps companies make
better strategic decisions, and the use of decision aids can help managers make better
forecasts. However, formal
strategic planning systems do not always produce the desired results.
The final section of the chapter str
esses the importance of effective decision making by the firm’s top managers in
achieving superior performance.
TEACHING OBJECTIVES
1
.
Introduce students to the concept of strategy.
2
.
Specify
the relationships between superior performance, profitability, competitive advantage and
sustainable competitive advantage.
3
.
Identify the roles and responsibilities of strategic managers at different levels within the org
anization.
4
.
Outline the main components of the strategic management process covered in subsequent
chapters and show
how they fit together.
5
.
Contrast the rational, deterministic view of str
ategy with alternate views, which describe strategy as an
emergent process.
6
.
Explain why formal strategic planning may not always lead to success, and
identify ways of avoiding some
of the common pitfal
ls associated with strategic planning.
7
.
Identify the attributes associated with superior strategic leadership.
2
Chapter
1
:
The Strategic Management Process
Copyright © Houghton Mifflin Company. All rights reserved.
8
.
Describe some of the barriers to effective strategic decision making and the
techniques for improving
decision making.
OPENING CASE: DELL C
OMPUTER
The Opening Case tells the story of Dell Computer, from its earliest days as a start
up in Michael Dell’s college
dorm room, to an extremely successful giant corporat
ion, with estimated sales of over $30 billion in 2002. Dell
has the highest profitability in its industry, has maintained that leadership for several years,
and even stayed
profitable during the recent downturn in high technology industries.
Dell’s phenome
nal success is directly attributable to its direct
sales business model, which allows the firm to cut
costs and lower prices by eliminating the middlemen: wholesalers and retailers. Dell’s
model also allows buyers
to customize their computers quickly and e
asily, thus providing a high value
added product for a lower price than
traditional PC makers. Another important aspect of Dell’s business model is a just
in
time supply chain, with
purchases made in great quantities, allowing the firm to further reduce in
ventory, obsolescence, and cost of raw
materials.
Teaching Note:
This Opening Case provides an excellent opportunity to discuss many of the concepts that
will be
introduced in Chapter 1. For example, Dell developed a business model that was unique
and revo
lutionary at the
time. The model allowed the firm to add value for customers while keeping costs low,
improving both
effectiveness and efficiency. Because the model was unique and led to improved
effectiveness and efficiency, the
firm achieved a sustained
competitive advantage. The business model was developed by Michael Dell, and thus
provides an example of effective strategic leadership and vision. This case may be used to
point out to students
that every firm, no matter how successful, is vulnerable to c
ompetitive attack. Although Dell dominates its
industry today, so too did IBM dominate at one time, as did Apple, Osborne, and Atari. To
highlight Dell’s
current advantages, one avenue of discussion would involve asking students to describe
conditions unde
r which
Dell might lose its competitive advantage.
LECTURE OUTLINE
I
.
Overview
A
.
Why do some organizations succeed and others fail? An answer can be found in the subject
matter of
this course. This course is about strategic management and the advantages that accrue to
organizations
that think strategically.
B
.
A
strategy
is a course of action that managers take in the effort to
attain superior performance.
C
.
Understanding the roots of success and failure is not an empty academic exercise. Through
such
understanding comes a better appreciation for the strategies that must be pursued to
increase the
probability of success and reduce the probability of failure.
II
.
Superior Performance and Competitive Advantage
A
.
For businesses, superior performance is d
emonstrated through above
-
average profitability, as
compared to other firms in the same industry.
Profitability
is typically measured using after
tax
return on invested capital.
Show Transparency 1
Figure 1.1: Return on Invested Capital in Selected Industr
ies, 1997
2001
B
.
The strategies that an organization’s managers pursue have a major impact on its
performance relative
to its peers.
C
.
When a firm’s profitability i
s greater than the average profitability for all firms in its industry, it has a
competitive advantage
over its rivals. The greater the profitability, the greater is its competitive
advantage. A
sustained competitive advantage
occurs when a firm maintains
above
average
profitability for a number of years.
D
.
A
business model
describes managers’ beliefs about how a firm’s strategies will lead to competitive
advantage and superior profitability.
An appropriate business model is one component of a successful
strategy.
E
.
Another component of a successful strategy is a favorable competitive or industry
environment.
Chapter
1
:
The Strategic Management Process
3
Copyright © Houghton Mifflin Company. All rights reserved.
F
.
Strategic management is relevant to many different kinds of organizations, from large
multibusiness
organizations to small one
person enterprises and from publicly held pr
ofit
seeking corporations to
nonprofit organizations.
III
.
Strategic Managers and Strategic Leadership
A
.
G
eneral managers
are responsible for the overa
ll performance of the organization or for one of its
major self
contained divisions.
B
.
Functional
managers
are
responsible for specific business functions, such as human resources,
purchasing, production, sales
, customer service, and accounts.
C
.
The three main levels of management are the corporate level, the business level, and the
functional
level. General managers are found at the first two of these levels but the
ir strategic roles differ,
depending on their sphere of responsibility. Functional managers too have a strategic role,
though of a
different kind.
Show Transparency 2
Figure 1.2: Levels of Strategic Management
D
.
The corporate level consists of the CEO, board of directors, and corporate staff. The CEO’s
role is to
define the mission and goals of the firm, determine what businesses the firm should be in,
allocate
resources to the different business areas of the f
irm, and formulate and implement strategies that span
individual businesses.
E
.
The business level consists of the heads of the individual business units (divisions) and
their support
staff. Business unit (divis
ional) CEOs’ role is to translate general statements of intent at the corporate
level into concrete strategies for individual businesses.
F
.
The functional level consists of the managers of specific business ope
rations. They develop functional
strategies that help fulfill the business
and corporate
level strategic goals. They provide most of the
information that makes it possible for business and corporate
level general managers to formulate
strategies. They are
closer to the customer than the typical general manager, and therefore functional
managers may generate important strategic ideas. They are responsible for the
implementation of
corporate
and business
level decisions.
IV
.
Strategic Planning
A
.
The formal strategic management planning process can be broken down into a number of
components. Each component forms a section of this course. Thus it is important to
understand ho
w
the different components fit together.
B
.
Together, the components form a cycle, from strategy formulation to implementation. After
implementation, the results that are obtained must be monitored, and the resu
lts become an input to
the formulation process on the next cycle. Thus the strategic process is continuous.
Show Transparency 3
Figure 1.3: Main Components of the Strategic Planning Process
C
.
The components a
re organized into two phases. The first phase is strategy formulation, which
includes selection of the corporate mission, values, and goals; analysis of the external and
internal
environments; and the selection of appropriate strategies.
D
.
The second phase is strategy implementation, which includes corporate governance and
ethics issues,
as well as the actions that managers take to translate the formulated strategy into reality.
STRATEGY IN AC
TION 1.1: STRATEGIC
PLANNING AT MICROSOF
T
At first glance, formal strategic planning may seem to be incompatible with the
unpredictable changes and the
free
wheeling cultures of high
technology firms. But Microsoft, a dominant high
tech organization, has h
ad a
formal planning process in place since 1994, when CEO Bill Gates hired Bob Herbold to
head the operations
staff. Herbold’s planning system looked at strategies for extending and maintaining the
company’s established
products, such as MS Windows, as we
ll as strategies for speeding, developing, and easing adoption of its newer
4
Chapter
1
:
The Strategic Management Process
Copyright © Houghton Mifflin Company. All rights reserved.
products, such as MSN and X
Box. The plan looks at goal and financial information from each of Microsoft’s
divisions for three years into the future, and is updated annually. The p
lanning process includes functional and top
managers. The resulting strategic plans are used to determine resource allocation within the
firm, as well as for
strategic control and monitoring. Microsoft managers realize the need for flexibility as
industry
conditions
change, but the formal plan provides a foundation for action that enables, rather than
hinders, creativity and
flexibility.
Teaching Note:
This insert provides an example of how a large, diversified firm, with many products in many
different sta
ges of development, competing in a rapidly changing environment, has a powerful need for
formal
strategic planning. In fact, such firms’ need for formal planning is perhaps greater than
smaller, less diversified
firms or firms in industries that change slo
wly. One common, yet false, assumption made by students is that
complexity or unpredictability can eliminate or reduce the need for planning. Through the
example of this case,
you can demonstrate that the opposite is true
—
that complex firms in difficult en
vironments have a critical need
for a consistent planning process, which allows comparison across divisions and across
time.
E
.
Corporate Mission, Values and Goals
1
.
A
corporate
mission
or
vision
is a formal statement of what the company is trying to achieve
over a medium
to long
term time frame. The mission states why an organization exists and
what it should be doing. Abell used a customer
oriented definition when he claimed th
at a
mission statement should describe the customer, their needs, and the method the firm will
use to
satisfy those needs.
Show Transparency 4
Figure 1.4: Abell’s Framework for Defining the Business
2
.
The
values
of a compa
ny state how managers and employees should conduct themselves, how
they should do business, and what kind of organization they should build to help a company
achieve its mission. Values are the foundation of a company’s
organizational culture
. Values
inclu
de respect for the organization’s diverse
stakeholders
.
3
.
A
goal
is a desired future state or an objective to be achieved. Corporate goals are a more
specific statement of the ideas articulated in the corporate mission. Wel
l
constructed goals are
precise and measurable, address crucial issues, are challenging but realistic, and have a
specified time horizon for completion.
4
.
A major goal of business is to provide high returns to shareholders,
either through dividends or
through an appreciation in the value of the shares. High profitability will enable the firm to
pay
high dividends as well as create an appreciation in share value. Thus, high profitability
provides
the best return to shareholde
rs. However, managers must be aware that the profitability should
be sustainable, and they should not sacrifice long
term profits for short
run profits.
F
.
External analysis identifies strategic opportunities an
d threats that exist in three components of the
external environment: the specific industry environment within which the organization is
based, the
country or national environment and the macroenvironment.
G
.
In
ternal analysis identifies the strengths and weaknesses of the organization. This involves
identifying
the quantity and quality of an organization’s resources.
H
.
Together, the external and internal analyses res
ult in a
SWOT analysis
, delineating a firm’s
strengths,
weaknesses, opportunities, and threats. The SWOT analysis is then used to create a
business model to
achieve competitive advantage, by
identifying strategies that align, fit, or mat
ch a company’s
resources to the demands of the environment. This model is called a fit model.
I
.
Strategic choice involves generating a series of strategic alternatives, based on the firm’s
mission,
values, goal
s, and SWOT analysis, and then choosing those strategies that achieve the best fit.
Organizations identify the best strategies at the functional, business, global, and corporate
levels.
1
.
Functional
level strategy
is direct
ed at improving the effectiveness of functional operations
within a company, such as manufacturing, marketing, materials management, research and
development, and human resources.
2
.
The
business
level strategy
of a company
encompasses the overall competitive theme that a
company chooses to stress, the way it positions itself in the marketplace to gain a
competitive
advantage, and the different positioning strategies that can be used in different industry
settings.
Chapter
1
:
The Strategic Management Process
5
Copyright © Houghton Mifflin Company. All rights reserved.
3
.
More and more, to achieve a competitive advantage and maximize performance, a
company has
to expand its operations outside the home country.
Global strategy
addresses how to expand
operations outside the home country.
4
.
Corporate
level strategy
must answer this question: What businesses should we be in to
maximize the long
run profitability of the organization? The answer may involve vertical
integration, diversification, strategic alliances, acquisi
tion, new ventures, or some combination
thereof.
J
.
Strategy implementation consists of a consideration of corporate governance and business
ethics, as
well as actions that should be taken, for companies that co
mpete in a single industry and companies
that compete in more than one industry or country.
V
.
Strategy as an Emergent Process
A
.
The formal planning pr
ocess implies that all strategic decision making is rational, structured, and led
by top management. However, some criticisms of the formal planning process include the
charge that
the real world is often too unpredictable, that lower
level employees often
play an important role in
the formulation process, and that successful strategies are often the result of good luck
rather than
rational planning.
B
.
We live in an uncertain world, in which even thoughtful stra
tegic plans may be rendered useless by
rapid environmental changes. Therefore organizations must be able to respond quickly to
changing
circumstances. According to critics, such a flexible approach to strategy making is not
possible within
the framework of
the traditional strategic planning process, with its implicit assumption that an
organization’s strategies need to be reviewed only during the annual strategic planning
exercise.
STRATEGY IN ACTION 1
.2: A STRATEGIC SHIF
T AT MICROSOFT
Mi
crosoft is the dominant software company in the world. Nevertheless, Microsoft was caught
off guard by the
rapid rise of the Internet and the invention of the Java computer programming language.
This led to the sudden
emergence of companies such as Netscap
e and Sun Microsystems as potential competitors. Microsoft initially
ignored these two developments, but later decided to respond. The firm’s goal was still to
be the dominant
software maker; however, its strategy to achieve this goal shifted to a reliance
on industry standards, which made
its products able to work in many different hardware and software environments. In addition,
Microsoft decided to
give away its own Web browser and Web server software for free; decided to incorporate
“browser functions”
in
future software; and developed new versions of the software package Word that would
enable users to convert
their documents into HTML format that could be transmitted over the Web. The software
giant surprised
observers by announcing an alliance with ri
val America Online (AOL), the world’s largest on
line service, and
Microsoft also cut a deal with Intel.
Teaching Note:
The key point here is that strategy is not only a rational and deterministic planning process.
Instead, strategy is constantly shaped by
unforeseen events in an unpredictable environment. Ask students to
consider the risks and benefits of following the strategic advice of just a few managers, in
light of the material
about biases in strategic decision making. Another discussion starter wou
ld be to ask students if they know of
other actions that Microsoft took to increase the chances of success of this fairly risky shift
in strategy. For
example, at the same time as the case, Microsoft was entering into contractual relationships
with PC make
rs to
ensure that its products were bundled with every new PC purchased. (Some of these
actions were found to be
illegal; most were unethical; and they provide one of the bases for the antitrust lawsuits that
were filed against
Microsoft.)
STRATEGY IN ACTION 1
.3: THE GENESIS OF A
UTONOMOUS ACTION AT
3M
Serendipity, or luck, often plays a part in the development of successful strategies. 3M is
renowned for its ability
to capitalize on that luck, using events that seem to be random or accide
ntal to inspire new products and strategies.
The development of the waterproofing Scotch Guard products happened as the result of an
accident in a lab
experiment. In another example, an employee developed a product, terminal emulation
software, purposefull
y for
his own personal use, but was unaware at the time that the market demand for that product
would be
extraordinarily high. However, firms have to be prepared for happy accidents and recognize
their potential
contribution. In one sad example, Western Un
ion turned down the opportunity to purchase Bell’s patent on the
6
Chapter
1
:
The Strategic Management Process
Copyright © Houghton Mifflin Company. All rights reserved.
telephone, believing that their extremely successful telegraph business would continue to
dominate the
communications industry.
Teaching Note:
An interesting discussion could be generated fro
m this case by asking students to consider what
kind of organization culture, policies, structure, leadership, and so on would be necessary to
encourage
employees’ creativity and autonomy, as opposed to the closed mindset displayed by
Western Union. Tolera
nce of
failure is perhaps the most important characteristic in encouraging creativity, because a firm
that punishes failed
experiments will find that employees are unwilling to experiment. Yet failure is abhorred and
punished severely in
most organizations
. You can point out to students that 3M gives its R&D employees funds, space, and time to
pursue experiments of personal interest, with the requirement that any promising
developments be reported and
pursued further. Post
It notes is another 3M product tha
t grew from a failed experiment, when an experiment
produced a very weak glue rather than the powerful glue that was intended. Classroom
discussion can also be
enlivened and humor introduced if you describe, or ask students to describe, other
innovations t
hat were not
pursued, to disastrous results. For example, when a Harvard M.B.A. student wrote a paper
proposing a profit
making delivery service, he hoped his professor would help him find venture financing, but
instead, received a D
on the assignment. The
professor believed that no firm would ever be able to deliver packages more efficiently or
cheaply than the government
subsidized U.S. Postal Service. The student went on to become the founder of
Federal Express.
C
.
Mintzberg believed that strategies can emerge from deep within an organization, and
therefore, he
defined strategy as a pattern in a stream of decisions or actions. The pattern is a product of
whatever
aspects of an organization’s
intended (planned)
strategy
are actually realized and of its
emergent
(unplanned) strategy
. Strategies that are intended may be deliberately implemented, or realized.
They may also be abandoned, or unrealized. Unintended strategies may spring from
anywhere in the
organizatio
n, or “emerge,” and are thus called emergent strategies.
Show Transparency 5
Figure 1.5: Emergent and Deliberate Strategies
D
.
Nevertheless, top management still has to evaluate the worth of emergent strategie
s and determine
whether each one fits the organization’s needs and capabilities. This involves analyzing the
organization’s external environment and internal operations. Moreover, an organization’s
capability
to produce emergent strategies is a function of
the kind of culture fostered by its structure and control
systems.
E
.
Thus the different components of the strategic management process are just as important
from the
perspective of emergent strategies as they
are from the perspective of intended strategies. The
formulation of intended strategies is a top
down process, whereas the formulation of emergent
strategies is a bottom
up process.
F
.
In practice, the strategie
s of many firms are a mix of the intended and the emergent. The trick for
managers is to recognize the process of emergence and to intervene selectively, killing off
bad
emergent strategies but nurturing good ones (strategic management process for intended
and emergent
strategies).
VI
.
Strategic Planning in Practice
A
.
Research indicates that formal planning does help companies make better strategic
decisions.
B
.
However, one mistake made by planners is to focus on the present, which is known, and
neglect to
study the future, which is more unpredictable but also more essential for strategic decisions.
Studying
the future means mak
ing accurate estimates of future conditions. The text highlights the use of
scenario planning
, which was developed at Royal Dutch/Shell and is a helpful forecasting technique.
STRATEGY IN ACTION 1
.4: SCENARIO PLANNIN
G AT DUKE ENERGY
Duke
Energy is one of the nation’s largest energy generators and marketers, and has been
suffering increasingly
intense competition as that industry becomes more uncertain and complex. Demand for
energy is strongly
dependent upon the economic cycle, which itse
lf is highly unpredictable. In addition, energy generation capacity
must be planned at least five years in advance, is very costly to develop, and can sit idle for
some time if forecasts
Chapter
1
:
The Strategic Management Process
7
Copyright © Houghton Mifflin Company. All rights reserved.
are inaccurate. To cope with this uncertainty, Duke managers develope
d three possible future industry scenarios.
In the first, demand slips; in the second, energy trading becomes dominated by Internet
firms, rather than
traditional marketers such as Duke; and in the third, demand grows, as does competition.
For each scenari
o,
managers identified about 20 signals that would indicate the scenario was developing in
reality. Monitoring these
signals pointed to the likelihood of the third scenario dominating the industry trends, and
managers immediately
began to make decisions th
at would maximize performance under that scenario, such as increasing capacity. Duke
executives also realized that they could take some relatively simple and inexpensive actions
that would enable
them to hedge their bets, in case another scenario developed
instead.
Teaching Note:
Scenario planning can be a very useful technique but it depends upon having the
information and
ability to identify relevant signals, interpret trends, and so on. One way to help students
understand scenario
planning is to have a s
hort classroom activity devoted to developing scenarios for some future time in the
students’ lives, such as determining what they will be doing in five years’ time. Ask students
to help develop two
scenarios of their future, while you write their ideas do
wn. They should identify relevant variables, which might
include such items as the unemployment rate, their satisfaction or lack of satisfaction with
their first professional
job after graduation, and so on. For example, one scenario might be “Still Workin
g at My First Job,” another
might be “Returning to Graduate School,” whereas another might be “Switching Career
Fields.” Help students
think about what data they need to evaluate, what the relevant signposts might be, and
what differing actions they
might
take in response to the scenario planning results. Yet another interesting concept is the
extent to which the
students could hedge their bets, taking actions that will help to achieve success no matter
what the scenario. For
example, savings could be used
to support them while they take a short career break under one scenario, while
they could be used to pay for graduate school in another scenario.
C
.
Another serious mistake that is often associated with the use
of formal planning is ignoring the
potential contributions of any employees that are not part of the top management team. This
error is
known as
ivory
tower planning
. This approach can result in strategic plans that are formulated by
planning executives wh
o have little understanding or appreciation of operating realities and are not
the ones who must implement the plans. This separation between thinking and doing
causes more
harm than good.
1
.
Correcting the ivory
tower appro
ach to planning involves recognizing that, to succeed, planning
must embrace all levels of the corporation. Most of the planning can and should be done by
functional managers. They are the ones closest to the facts. The role of corporate
level planners
sho
uld be that of facilitators who help functional managers do the planning.
2
.
It is not enough just to involve lower
level managers in the strategic planning process. They
also need to perceive that the decision
making proces
s is just.
Procedural justice
is the extent
to which the dynamics of a decision
making process are judged to be fair. Three criteria have
been found to influence the extent to which strategic decisions are seen as just:
engagement,
explanation, and clarity
of expectations.
D
.
Another serious error was pointed out by
Hamel and Prahalad, who assert that adopting the fit model
to strategy formulation leads to a mindset in which management focuses too much upon the
e
xisting
resources of a company and
current
environmental opportunities
—
and not enough on building
new
resources and capabilities to create and exploit
future
opportunities. When companies
have bold
ambitions that outstrip their existing
resources and capabilities and want to achieve global leadership,
then they build the resources and capabilities that would enable them to attain this goal.
The top
management of these companies created an obsession with winning at all levels of the
organi
zation
and then sustained that obsession over the long term. Hamel and Prahalad refer to this
obsession as
strategic intent.
VII
.
Strategic Leadership and Decision Making
A
.
One of the key strategic roles of any manager, whether general or functional, is to provide
strategic
leadership for subordinates.
Strategic leadership
refers to the ability to articulate a strategic vision
for the company and to motivate others to buy
into that vision. Strong leaders meet six criteria.
1
.
Strong leaders have a vision of where the organization should go, are eloquent enough to
communicate this vision to others within the organization in terms that energize
people, and
consistently articulate their vision until it becomes part of the culture of the organization.
2
.
Strong leaders demonstrate their commitment to their vision by actions and words, and they
often lead by example.
8
Chapter
1
:
The Strategic Management Process
Copyright © Houghton Mifflin Company. All rights reserved.
3
.
Strong leaders are well informed, developing a network of formal and informal sources of
information that keep them well apprised of what is going on within their company. They
develop “backchannel” ways of finding out w
hat is going on within the organization so that
they do not have to rely on formal information channels.
4
.
Strong leaders are skilled delegators. They recognize that, unless they delegate, they can
quickly become overloaded
with responsibilities. Besides, they recognize that empowering
subordinates to make decisions is an effective motivational tool. Empowerment also makes
sense when it results in shifting decisions to those who must implement them.
5
.
Strong leaders are
politically astute. They play the power game with skill, preferring to build
consensus for their ideas rather than use their authority to force ideas through. They act as
members or leaders of a coalition rather than as dictato
rs. Recognizing the uncertain nature of
their forecasts, they commit to a vision rather than to specific projects or deadlines. They
also
realize that a big change may be more easily implemented in small, piecemeal steps.
6
.
Strong leaders exhibit emotional intelligence, which includes self
awareness, self
regulation,
motivation, empathy, and social skills. Leaders who exhibit a high degree of emotional
intelligence tend to be more effective.
B
.
The best
designed strategic planning systems will fail to produce the desired results if strategic
decision makers fail to use the information at their disposal effectively. Our rationality as
decision
makers is bounded by our own cognitive
capabilities. Experimental evidence shows that all humans
suffer from innate flaws in their reasoning ability, which are called cognitive biases. We tend
to fall
back on certain rules of thumb, or heuristics, when making decisions, and sometimes they
lead
to
severe and
systematic errors
in the decision
making process. However, to the extent that managers are
aware of their own
cognitive biases
, they can attempt to compensate for the resulting weaknesses
through some decision
making improvement techniques.
1
.
The
prior hypothesis bias
refers to the fact that decision makers who have strong prior beliefs
about the relationship between two variables tend to make decisions on the basis of these
beliefs, even when presented with ev
idence that their beliefs are wrong.
2
.
Escalating commitment
occurs when, having already committed significant resources to a
project, decision makers commit even more resources if they receive feedback that the
project is
failing. This may be an irrational response; a more logical response may be to abandon the
project and move on, rather than escalate commitment.
3
.
Reasoning by analogy
involves the use of simple analogies to make sense out
of complex
problems. However, because they oversimplify a complex problem, such analogies can be
misleading.
4
.
Representativeness
refers to the tendency on the part of many decision makers to generalize
from a small sample
or even a single vivid anecdote. Generalizing from small samples violates
the statistical law of large numbers, which tells us that it is inappropriate to generalize from
a
small sample, to say nothing of a single case.
5
.
T
he
illusion of control
is the tendency on the part of decision makers to overestimate their
ability to control events. Top
level managers seem to be particularly prone to this bias. Having
risen to the top of an organization, they tend to be overconfident
about their ability to succeed.
C
.
Another cause of poor strategic decision making appears to be a phenomenon referred to
as
groupthink.
Groupthink
occurs when a group of decision makers decides on a course of a
ction
without questioning underlying assumptions. Typically, a group coalesces around
commitment to a
person or policy. Information that could be used to question the policy is ignored or filtered
out, while
the group develops after
the
fact rationalizatio
ns for its decision. Thus commitment is based on an
emotional rather than an objective assessment of what is the correct course of action.
D
.
The existence of cognitive biases and groupthink raises the problem o
f how to bring critical
information to bear on the decision mechanism to ensure that strategic decisions made by
the firm are
realistic. Two techniques that have been proposed to guard against this problem are devil’s
advocacy
and dialectic inquiry.
1
.
Devil’s advocacy
involves the generation of a plan and a critical analysis of it. A member of
the group should act as the devil’s advocate, bringing out all the reasons why the proposal
should not be adopted. Thus decision make
rs can be made aware of the possible perils of
recommended courses of action.
Chapter
1
:
The Strategic Management Process
9
Copyright © Houghton Mifflin Company. All rights reserved.
2
.
Dialectic inquiry
involves the generation of a plan and a counterplan reflecting plausible but
conflicting courses of action. A debate between
advocates of the plan and those of the
counterplan should be considered by senior strategic managers. The debate is intended to
reveal
problems with definitions, recommended courses of action, and assumptions. As a
consequence,
corporate decision makers an
d planners can form a new, more encompassing final plan (a
synthesis).
Show Transparency 6
Figure 1.6: Processes for Improving Decision Making
ANSWERS TO DISCUSSIO
N QUESTIONS
1
.
What do we mean by strategy
?
The straightforward answer is the definition presented in the text: “an action a company
takes to attain
superior performance.” You can also point out to students that strategy involves both
thinking and doing.
However, a full answer to this question inv
olves a consideration of Mintzberg’s definition of strategy as a
pattern in a stream of decisions or actions. From this perspective, strategy is more than
what a company
intends to do; it is also what it actually does. That is to say, a company’s strategy
is the product of (a) that
part of its intended strategy that is actually realized and (b) its emergent strategy.
2
.
What do you think are the sources of sustained superior profitability?
In the plainest terms, sustained sup
erior profitability results when a company is able to increase profits,
either by increasing revenues or decreasing expenses or both, and when that ability is
difficult or impossible
for competitors to imitate. With that in mind, it becomes clear that sust
ained superior profitability is most
likely to occur when the advantages are intangible, such as management insight, disciplined
cost cutting by
employees, or a culture that nourishes creativity. Intangible resources are much more
difficult to imitate
than
tangible ones, and thus provide a sustainable advantage. However, students should see
that no firm can
sustain an advantage forever. The advantage itself will tend to weaken over time and
competitors will learn
to imitate that advantage or develop other a
dvantages of their own that will counteract the power of the
original advantage.
3
.
What are the strengths of formal strategic planning? What are its weaknesses?
A formal strategic planning process results in a systematic re
view of all the external and internal factors that
might have a bearing on the ability of the company to meet its strategic objectives. Formally
identifying
strengths, weaknesses, opportunities, and threats is a good way of alerting strategic
managers to w
hat needs
to be done if the firm is to fulfill its strategic mission.
However, like any rational process, strategic planning is limited by the fallibility of human
decision makers.
In particular, strategic managers may fall victim to the phenomenon of grou
pthink and to their own
cognitive biases. Thus supposedly rational decisions can turn out to be anything but
rational. This hazard
can be minimized, however, if the organization uses decision
making techniques such as devil’s advocacy
or dialectic inquiry.
In addition, in a complex and uncertain world characterized by rapid change, strategic plans
can become
outdated as soon as they are made. In such circumstances, the company’s plan can
become a policy
straitjacket, committing it to a course of action that
is no longer appropriate. Change is something that
cannot be insured against. Consequently, flexible, open
ended plans are perhaps the best way of giving the
company room to maneuver in response to change. Moreover, consistent vision and
strategic intent
are
probably more important than detailed strategic plans. The strategies that a company
adopts might need to
change with the times, but the vision can be more enduring.
4
.
Discuss the accuracy of this statement: Formal stra
tegic planning systems are irrelevant for firms competing
in high
technology industries where the pace of change is so rapid that plans are routinely made
obsolete by
unforeseen events.
Formal strategic planning systems are not at their best in situations
with rapid and unpredictable change.
Formal systems are time
consuming, and may not be able to provide answers quickly enough when time is
Chapter
1
:
The Strategic Management Process
13
Copyright © Houghton Mifflin Company. All rights reserved.
and software. The high
tech slump and the failure of many
Internet businesses were also unanticipated and
caused the firm to scramble for an adequate response.
2
.
Could Yahoo have done a better job of anticipating the slowdown in advertising revenue
that occurred in
2000
–
2001 and p
ositioning itself for that slowdown? How? What might it have done differently from a
strategic planning perspective?
Although Yahoo was certainly not alone in being taken by surprise, it could have done a
better job of
anticipating the high
tech slowdown.
Specifically, even in the absence of any evidence that pointed directly
to a slowdown, the firm should have looked carefully at its business model for areas of
vulnerability. Early
identification of potential weaknesses would allow more time for planning a
nd preparation of strategies to
offset those weaknesses. Yahoo’s model, charging advertisers in order to provide free
services to
consumers, was very vulnerable to slowdown in advertising expenditures. Additionally, most
of the firm’s
advertisers were conc
entrated in the high
tech industry, which increased Yahoo’s vulnerability. Scenario
planning is one tool the firm could have used to identify vulnerabilities.
3
.
Does Yahoo have a source of potential long
term competitive ad
vantage? Where does this come from?
Students’ answers to this question will fall into two categories. If students see the firm as
having a potential
for long
term competitive advantage, they will probably focus on the long
term experience that Yahoo
manage
rs have in this fledgling industry and the brand name recognition that Yahoo possesses.
Yahoo also
has a relatively loyal and very large customer base. However, on the downside, Yahoo’s
recent problems
and strategic missteps have somewhat eroded its reputa
tion. In this developing industry, longevity is not
much of an advantage, and may in fact be a disadvantage. Yahoo’s customers could
quickly and easily
switch to another web portal if they decided that the firm is no longer meeting their needs.
Yahoo’s
fun
damental problem, that users don’t want to pay for web portal services, remains unchanged,
and it’s
unlikely the firm will have a long
term competitive advantage until they find a way to effectively address
that concern.
4
.
What does Koogle’s resignation in May 2001 tell you about the role of a CEO in a public
company?
Most CEOs are collaborators, developing their firm’s strategies in tandem with many lower
level managers.
And most CEOs delegate strategy implementation to low
er
level managers as well. However, the CEO is
the single person most closely associated with the firm’s performance in the minds of
company
shareholders. This can work in the CEO’s favor, as when they garner all the praise when
performance
climbs. It can
also work against them, when they receive all the blame for performance declines. Koogle
was not solely responsible for Yahoo’s problems; and in fact, in the answer to Question 1
above, the role of
serendipity is described. However, shareholders, employees
, and customers tend to lose confidence in a
firm’s leadership when performance is poor, even when environmental factors are largely to
blame. When a
CEO recognizes that they no longer have their stakeholders’ confidence, their effectiveness
is diminished.
Koogle apparently realized that it would be best for both the firm and himself if he removed
himself from
the situation.