Economics of Strategy
The Origins of Competitive Advantage
AEC 422
Fall 2014
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Monsanto Case – in class next Monday
11/17 ……pre-memo
Monsanto final memo due Nov 19
Note group presentation date assignments
Entrepreneurship and Competitive
Advantage
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Competitive advantage arises from a firm’s
entrepreneurial ability to exploit market
shocks and discontinuities
Joseph Schumpeter used the term “creative
destruction” to new sources of competitive
advantages displacing the established ones
Creative Destruction
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Markets have periods of comparative quiet
punctuated by shocks and discontinuities
During the period of quiet firms that posses
superior products and technology earn
economic profits
Entrepreneurs who exploit the opportunities
created by the shocks enjoy economic profits
during the next period of quiet
Creative Destruction in
Agribusiness
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Ethanol
Animal genomics
GM crops
Precision agriculture technologies
Greenhouse production
Food safety and QA demand
International food supply chains
National Organic Standards
New wine production technologies
Creative Destruction and Growth
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Schumpeter considered static efficiency allocative efficiency at a point in time - to be
less important than dynamic efficiency
Society benefits much more from competition
between new products, new technologies
and new forms of organization than from
price competition
Creative Destruction and Monopoly
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Schumpeter’s ideas have been used to
defend monopoly ( at least in the short run)
The interpretation is that prospects of
“capturing” monopoly leads to greater
investment in innovation and higher longterm growth
Creative Destruction and Monopoly
Creative Destruction and
Competitive Advantage
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Creative destruction implies that the isolating
mechanisms that protect a firm’s competitive
advantage will not be permanent
The life expectancy of a competitive
advantage shrinks as technology and tastes
change rapidly
Life Cycle of Competitive
Advantage
Changing Grocery Environment
Piggly Wiggly – 1918 1st Self Serve
Source: wikipedia.com
A&P – largest U.S. grocery 1927-1975
The changing grocery world
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Supermarkets
Convenience stores
Hypermarkets
Club stores
Natural food stores
Peapod delivery
WalMart Express
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Refrigeration
Scanner labels
Scanner-based
purchasing
JIT distribution
IT intensive
category
management
Disruptive Technologies
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New technology that offers greater perceived
benefit and at a much lower cost - displaces
existing ones – radical change to production
function
Example: hybrid seed, GMP products, GIS &
precision ag, RFID tags, internet auctions like
E-Bay?, hydrogen cells….many others
What are potential (or recent) disruptive
technologies in your industry?
Sustainability and Creative Destruction
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Biotech and pharmaceutical firms have taken
proactive steps to be in touch with the
scientific and academic community
Elanco Animal Health
Long-run successes may also be traced to
historical accidents…but mostly it involves
continuous investment to create new
advantages
Source: Elanco Annual Report 2009
2012 R&D Share
Monsanto 11.2%
Syngenta 10.9%
2010-12 Financial Highlights
Eli Lilly and Company and Subsidiaries
(Dollars in millions, except per-share data)
Year Ended December 31
Revenue. . . . . . . . . . . . . . . . . . . . . . . . .
2012
$22,603
Research and development . . . . . . . . .
Research and development as a percent of revenue . . .
Net income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
5,278
23.4%
$4,089
Source: 2013 Financial Statements, Eli Lilly
2011
$24,286.5
5,409
22.3%
$4,347.7
2010
$23,076.0
4,934
21.4%
$ 5,069.5
Hypercompetition
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Firms are said to enter a state of hypercompetition
state when competitive advantages can only be
sustained for very short periods
According to Richard D’Aveni, several industries are
in this state and firms in these industries can sustain
their economic profits only by continually seeking
new sources of competitive advantage
See “Competing on the Edge” by Brown &
Eisenhardt
Types of Innovation
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Product innovation – new product
development leader
Process innovation (reverse or process
engineering) – process development leader
Distribution innovation – logistics leader (UPS,
Amazon, e-bay, Schwann’s)
Market alliance innovation – team development
leadership (Monsanto, Mondavi)
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“creation of a relentless flow of competitive advantages” –
K. Eisenhart on Bill Gates and Microsoft
Application to the Food Products
Industry
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Explosion in new food products introductions
Short product life
Many failures
Driven by consumer trends that can be very
short-lived
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Low-carb and other fad diets, soy, “new” nutrients
Food Industry News on The Food Institute
The Sunk Cost Effect
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For established firms, costs incurred to
commit to a particular technology are sunk
costs
Slow innovators
Established firms tend to favor the current
technology
Evolutionary Economics and
Dynamic Capabilities
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In traditional economics, a firm is assumed to
make decisions to maximize economic profit
Evolutionary economics views decisions
made by a firm as determined by routines
that are used by the firm
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LEAN
Process efficiency
Organic
Environmentally sustainable
New product development process
faster,
better products
Evolutionary Economics and
Dynamic Capabilities
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Usually a firm’s routines change slowly over
time if they do change
To ensure survival, firms need to
continuously improve their routines
Firms with dynamic capabilities can adapt
their resources and capabilities and exploit
opportunities created by market shocks and
discontinuities
Continuous improvement and
market shocks
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Anheuser Busch
and the 1920-1933
prohibition
•Toyota Prius –
3rd generation
electric hybrid
Factors that Limit Dynamic
Capabilities
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A firm’s dynamic capabilities are inherently
limited because of
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the path dependence of competitive advantage
limited availability of complementary assets and
“windows of opportunity” that do not stay open for
long
Path Dependence
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Firm’s routines can only change
incrementally and cannot have a clean break
from the past
The new source of advantage will be path
dependent
With threats from new entrants, even small
path dependencies can have major
implications for the firm’s competitiveness
Windows of Opportunity
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Early in a product’s life, its design and
specifications will be fluid and firms will have
room for experimentation
Over time a narrow set of design and
specifications emerge as dominant and it is
hard for new firms to challenge market
leaders
Those who do not exploit the window of
opportunity get shut out
Competitive Advantage and the
Environment
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Michael Porter suggests that the firm’s local
environment is a major influence on its
competitive environment
Canadian greenhouses, Israeli irrigation
Even as a modern firm transcends local
markets, the source of its competitive
advantage remains localized
Competitive Advantage and the
Environment
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A firm’s home nation and home markets play
an important role in its ability to sustain its
competitive advantage
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by supporting the accumulation of valuable
resources and capabilities and
by exerting pressure on the firm to innovate,
invest and improve
Competitive Advantage and the
Environment: Porter’s “Diamond”
Source: Porter: 1990
Factor Conditions
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A firm’s competitive advantage in the global
markets is enhanced by the availability of
specialized factors of production in the home
market
To be globally competitive, availability of
highly skilled workers in the home nation
may be more important than availability of
low wage workers
Demand Conditions
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A firm’s competitive advantage is enhanced
by the size, growth and nature of demand in
the home market
When home market places a high value on
quality, the firm is stimulated to make
improvements in the quality dimension
Unique local conditions can also be a source
of innovation
4 Regions – 4 Paths
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Florida
California
Canada
Mexico
Table 1. Product and Market Focus for Different
Tomato Production Regions
Region
Product Focus
Florida
Field grown and mature green,
Winter, foodservice
predominantly standard size (86% of and retail
standard size share), some cherry
and plum
California
Field grown vine ripened standard
size, plum – emphasis on processing
Summer, retail
Canada
Greenhouse standard size, includes
significant share of cherry tomatoes
(30%), premium grade and pack,
clusters
Summer, retail
Mexico
Field grown vine ripened, includes
significant share of cherry and plum
(38%)
Winter, retail
Source: Share data based on USDA Shipments by Commodities,
Origins and Months 2001, March, 2002.
Market Focus in U.S.
Table 2.
Specific Assets in Different Production Regions
Production Region
Assets and Sources of Competitive Advantage
Mexico
Very low relative labor costs
Extended shelf life varieties
Winter growing climate
Close proximity to southern U.S. markets
Favorable exchange rates
Canada
Greenhouse technology
Close proximity to northern U.S. markets
Favorable exchange rates
Florida
Winter growing climate
Industry size and large vegetable sector
Proximity to eastern U.S. markets
California
Industry size and large vegetable sector
Proximity to western U.S. markets
Table 3. Institutions Providing Research and Producer Support
Major Research
Institutions
Production Region
Producer Institutions
Mexico
Confederation of Ag
Volcani Institute
Associations of the State of
Sinaloa; Fresh Produce
Associations of the
Americas
Canada
Ontario Greenhouse
Vegetable Producers
Marketing Board
Harrow Research Centre
Florida
Florida Tomato
Commission
University of Florida
California
California Tomato
Commission
Univ California Land
Grant and State schools
Table 4.
Problem Focus for Innovation
Production Region
Primary Problem Sets
Mexico
Extended shelf-life varieties
Water scarcity
Canada
Improving greenhouse production technology
Premium pack product development (eg., cluster tomatoes)
Florida
Labor cost reducing technologies
Field and packinghouse technological improvements
California
Variety improvements, especially for color
Sources: Sparling and Cook, Plunkett (Mexico); Harrow Research Centre (Canada);
California Tomato Commission, Beckman (California);
Florida Tomato Commission – P. DiMare (Florida).
Related and Supporting Industries
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A strong base of competent suppliers and
support industries at home will help a firm
achieve competitive advantage globally
Sharing scarce production know-how is
easier with geographical proximity
Strategy, Structure and Rivalry
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Local management practices, corporate
governance norms and nature of the local
capital markets can influence the competitive
advantage of global firms
Local rivalry may hold down local profits but
make the firms well positioned in the global
arena
Firms that enjoy local protection often fail to
make a mark outside the home nations
Managing Innovation
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To ensure that entrepreneurial spirits are not
stifled by the bureaucracy, companies have
been setting up corporate venture
departments
Spin-offs, joint ventures, strategic alliances
are other means of facilitating the creation of
new capabilities
Managing Innovation
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A firm has to contend with two opposing
forces in trying to manage innovation
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Bureaucracy/order vs Flexible creativity
To foster innovation, creativity and
entrepreneurship, the organization should be
sufficiently flexible
However, coordination of innovative activities
will require formal structure and controls
Monsanto Case
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What isolating mechanisms is Monsanto trying to put in place?
What is the role of first mover advantage in this case?
Are there network effects?
Discuss the life cycle of competitive advantage in this industry
How are the different types of innovation represented?
What routines does Monsanto have in place that will help (or hinder)
their future?
Consider Porter’s “Diamond” as a framework for assessing
Monsanto’s competitive advantage. Are environmental factors
impacting competitiveness for better or worse?