AB3601 Summary PDF

AB3601 Strategic Management
Seminar 1 - Introduction to Strategic Management

 Textbook: Chapter 1 Strategic Management and Strategic Competitiveness
 Learning Objectives:
o Understand the Strategic Management Framework
Strategic Management Framework
 Firms use strategic management process to achieve strategic competitiveness and earn above average returns.
o Strategic competitiveness is achieved when a firm successfully formulates and implements a value-creating strategy.
o Strategy is an integrated and coordinated set of commitments and actions designed to exploit core competencies and
gain a competitive advantage
 A firm has a competitive advantage when it implements a strategy that creates superior value for customers and
competitors are unable to duplicate or find it too costly to imitate.
 Firms analyse the external environment and their internal organisation, then formulate and implement a strategy to achieve
a desired level of performance
o Strategy Formulation Process
I/O Model of Above-Average Returns [External Environment Analysis]

 Industry Organization Model to determine most attractive industry to compete in.
o Most firms are assumed to have similar valuable resources that are mobile across companies,
o Firm’s performance can only be increased when they operate in the industry with the highest profit potential
o And learn how to use their resources to implement the strategy required by the industry’s structural characteristics
 Assumptions
o The external environment imposes pressures and constraints that determine strategic choices.
o Similarity in strategically relevant resources causes competitors to pursue similar strategies.
o Resource differences among competitors are short-lived due to resource mobility across firms.
o Strategic decision makers are rational and engage in profit-maximizing behaviors.
 Example: Airline Industry
o Highly regulated and consolidation occurred in both European and US airlines
o Delta airline was the first airline to introduce Wi-Fi to passengers during flights. However, innovations in the airline
industry that create differentiation are often easily copied by rivals.
o On time flights and lower customer complaints still more important.
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Resource-Based Model of Above-Average Returns [Internal Environment Analysis]

 Resource-Based Model suggests that the strategy the firm chooses should allow it to use its competitive advantage in an
attractive industry
 Assumptions:
o Firms acquire different resources.
o Firms develop unique capabilities based on how they combine and use resources.
o Resources and certain capabilities are not highly mobile across firms.
o Differences in resources and capabilities are the bases of competitive advantage and a firm’s performance rather than its
industry’s structural characteristics.
 I/O Model Resource Based Model
Vision & Mission

 Vision and mission formed by examining external and internal environment, using the two models
 A Successful Vision
o is an enduring word picture of what the firm wants to be and expects to achieve in the future
o stretches and challenges its people.
o reflects the firm’s values and aspirations.
o is most effective when its development includes all stakeholders.
o recognizes the firm’s internal and external competitive environments.
o is supported by upper management decisions and actions.
 An Effective Mission
o specifies the present business or businesses in which the firm intends to compete and customers it intends to serve.
o has a more concrete, near-term focus on current product markets and customers than the firm’s vision.
o should be inspiring and relevant to all stakeholders.
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Stakeholders
 Primary stakeholders
o Can affect development of the firm’s vision and mission
o Are affected by the strategic outcomes achieved by the firm
o Can have enforceable claims on the firm’s performance
o Are influential when in control of critical or valued resources
 Stakeholder Classification
 Capital Market Stakeholders

o Conflicting expectations of shareholders and lenders
 Dissatisfied lenders may impose stricter covenants on subsequent capital borrowings
 Dissatisfied shareholders may sell their stock
 Product Market Stakeholders
o Suppliers -
o Customers – reliable products at lowest possible prices
o Host Communities – local governments. Want long term employers and providers of tax revenue without placing
excessive demands on public support services
o Union Officials – interested in secure jobs, highly desirable working conditions.
 Organisational Stakeholders
o Employees – expect firm to provide a dynamic, stimulating and rewarding work environment. Develop skills
o Responsibilities of strategic leaders for development and effective use of firm’s human capital
Strategic Leaders
 Strategic Leaders
o Have a strong strategic orientation that relies on thorough analysis when taking action.
o Are located at various levels throughout the firm.
o Use the strategic management process to select strategic actions that help the firm achieve its vision and fulfil its mission
o Are innovative thinkers who promote innovation.
o Can leverage relationships with external parties while simultaneously promoting exploratory learning.
o Have an ambicultural (global mind-set) approach to management.
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Seminar 2 External Environment Analysis

 Textbook: Chapter 2
o Understand external environment Analytical tools (General Environment Analysis, Porter’s Five Forces)
 Identifies Opportunities & Threats

o A condition in the general environment that, if exploited effectively, helps a firm achieve strategic competitiveness.
o A condition in the general environment that may hinder a firm’s efforts to achieve strategic competitiveness.
 Components of External Environment Analysis
o Scanning – Identifying early signals of environmental changes and trends
o Monitoring – Detecting meaning through ongoing observations of environmental changes and trends
o Forecasting – Developing projections of anticipated outcomes based on monitored changes and trends
o Assessing – Determining the timing and importance of environmental changes and trends for firms’ strategies and their
management
General Environment Analysis – PESTEL

Focused on the future
 Demographics = Population size, age, income distribution, etc.
 Sociocultural = societal values, attitudes, and lifestyles
 Political/Legal = laws and regulations
 Technological = New products, processes, materials, etc.
 Economic = Economic growth, inflation, interest rate, etc.
 Global = New global markets, existing markets that are changing, important international political events, etc.
 Physical Environment = Actual and potential changes in the physical environment and business practices intended to
respond to these changes
Industry Environment Analysis – Porter’s 5 Forces

 Industry environment is the set of factors that directly influences a firm and its competitive actions and responses
o Focused on factors that influence firm’s profitability in an industry
o Define Industry clearly
1. Threat of New Entrants – Barriers to Entry
o Economies of Scale
 Marginal improvements in efficiency that a firm experience as it incrementally increases its size
o Factors (advantages and disadvantages) related to large-and small-scale entry
 Flexibility in pricing and market share
 Costs related to scale economies
 Competitor retaliation
o Product Differentiation
 Unique products, Customer loyalty, Products at competitive prices
o Capital Requirements
 Physical facilities, Inventories, Marketing activities, Availability of capital
o Switching Costs
 One-time costs customers incur buying from a different supplier
 New equipment, Retraining employees
 Psychic costs of ending a relationship
o Distribution Channel Access
 Stocking or shelf space, Price breaks, Cooperative advertising allowances
o Cost Disadvantages Independent of Scale
 Proprietary product technology
 Favourable access to raw materials or Desirable locations
o Government policy
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 Licensing and permit requirements

 Deregulation of industries
o Expected retaliation
 Responses by existing competitors may depend on a firm’s present stake in the industry
2. Bargaining Power of Suppliers
 Supplier power increases when
o Suppliers are large and few in number
o Suitable substitute products are not available.
o Individual buyers are not large customers of suppliers and there are many of them.
o Suppliers’ goods are critical to the buyers’ marketplace success.
o Suppliers’ products create high switching costs.
o Suppliers pose a threat to integrate forward into buyers’ industry.
3. Bargaining Power of Buyers
 Buyer power increases when
o Buyers are large and few in number.
o Buyers purchase a large portion of an industry’s total output.
o Buyers’ purchases are a significant portion of a supplier’s annual revenues.
o Buyers’ switching costs are low.
o Buyers can pose threat to integrate backward into the sellers’ industry.
4. Threat of Substitutes
 The threat of substitute products increases when:
o Buyers face few switching costs.
o The substitute product’s price is lower.
o Substitute product’s quality and performance are equal to or greater than the existing product.
 Differentiated industry products that are valued by customers reduce this threat.
5. Intensity of Rivalry Among Competitors
 Industry rivalry increases when:
o There are numerous or equally balanced competitors.
o Industry growth slows or declines.
o There are high fixed costs or high storage costs.
o There is a lack of differentiation opportunities or low switching costs.
o When the strategic stakes are high.
o When high exit barriers prevent competitors from leaving the industry. (Exit Barrier)
Attractive Industry – High Profit Potential

 High entry barriers
 Suppliers and buyers have low bargaining power
 Few threats from substitute products
 Moderate rivalry among competitors
Industry Environment Analysis – Strategic Groups

 Strategic Groups is a set of firms emphasizing similar strategic dimensions and using similar strategies.
 Intra-strategic group competition is more intense than is inter-strategic group competition due to:
o Similar market positions
o Similar products
o Similar strategic actions
 Strategic Dimensions
o Extent of technological leadership, Product quality, Pricing Policies, Distribution channels, Customer service
 Implications
o Intense competitive rivalry within a group threatens profitability of all group members.
o Strengths of the five forces differ across strategic groups.
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o The closer the groups are in their strategies, the greater the rivalry between groups.
Competitor Environment Analysis
 Competitor environment
o Focused on predicting dynamics of competitors actions, response and intentions
 Competitor Intelligence is the ethical gathering of needed information and data that provides understanding of:
o What drives the competitor, as shown by its future objectives.
o What the competitor is doing and can do, as revealed by its current strategy.
o What the competitor believes about the industry, as shown by its assumptions.
o What the competitor’s capabilities are, as shown by its strengths and weaknesses.
 Complementors
o The network of companies that sell complementary products or services or are compatible with the focal firm’s own
product or service.
 If a complementor’s product or service adds value to the sale of the focal firm’s product or service, it is likely to
create value for the focal firm.
 However, if a complementor’s product or service is in a market into which the focal firm intends to expand, the
complementor can represent a formidable competitor.
Ethical Considerations
 Practices considered both legal and ethical:
o Obtaining publicly available information
o Attending trade fairs and shows to obtain competitors’ brochures, viewing their exhibits, and listening to discussions
about their products
 Practices considered both unethical and illegal:
o Blackmail, Trespassing, Eavesdropping, Stealing drawings, samples, or documents
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Seminar 3 Internal Environment Analysis

o Define core competencies
o Present frameworks for identifying core competencies (Value-Chain analysis, Resource-based framework)
 Firms achieve strategic competitiveness and earn above-average returns when their core competencies are effectively:
o Acquired, Bundled or Leveraged.
 Over time, the benefits of any value-creating strategy can be duplicated by competitors.
 Sustainability of a competitive advantage is a function of:
o The rate of core competence obsolescence because of environmental changes. E.g. information technology – ecommerce
o The availability of substitutes for the core competence.
o The imitability of the core competence
Analysing the Internal Organisation

 Analysing the internal environment:
o By studying the internal environment, firms identify what they can do. Unique resources, capabilities, and competencies
(required for sustainable competitive advantage)
 Context of Internal analysis
o Global Economy
 Traditional sources of advantages can be overcome by competitors’ international strategies and by the flow of
resources throughout the global economy.
o Global Mind-Set
 The ability to study an internal environment in ways that are not dependent on the assumptions of a single
country, culture, or context.
o Analysis Outcome
 Understanding how to leverage the firm’s bundle of heterogeneous resources and capabilities.
 Creating Value
o By exploiting their core competencies or competitive advantages, firms create value.
o Value is measured by:
 Product performance characteristics
 Product attributes for which customers will pay
o Firms create value by innovatively bundling and leveraging their resources and capabilities.
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o Superior value  Above-average returns

 Creating Competitive Advantage
o Core competencies, in combination with product-market positions, are the firm’s most important sources of competitive
advantage.
o Core competencies of a firm, in addition to its analysis of its general, industry, and competitor environments, should
drive its selection of strategies.
 Challenges
o Strategic decisions in terms of the firm’s resources, capabilities, and core competencies:
 Are non-routine.
 Have ethical implications.
 Significantly influence the firm’s ability to earn above-average returns.
o When making strategic decisions, managers as strategic leaders must:
 Know when a capability is not a competence.
 Learn quickly from failures and mistakes.
 Have the maturity of judgment to deal effectively with uncertainty, complexity, and intraorganizational conflicts in
an unbiased manner.
 Be willing to take intelligent risks.
o Conditions Affecting Managerial Decisions about Resources, Capabilities, and Core Competencies
Core Competencies
Core competencies are capabilities that serve as a source of competitive advantage for a firm over its rivals
 Resources
o Tangible assets (assets that can be seen and quantified) e.g. financial, organizational, physical and technological
Financial Resources •The firm’s borrowing capacity
•The firm’s ability to generate internal funds
Organizational Resources •The firm’s formal reporting structure
Physical Resources •The sophistication and location of a firm’s plant and equipment and the attractiveness of its
location
•Distribution facilities
•Product inventory
Technological Resources •Availability of technology-related resources such as copyrights, patents, trademarks, and trade
secrets
o Intangible assets (assets rooted in the firm’s history and accumulated over time, relatively difficult for competitors to
analyse and imitate) e.g. Human – no. of experienced executives, Innovation, Reputation – value of goodwill
Human Resources •Knowledge •Abilities to collaborate with others
•Trust •Skills
Innovation Resources •Ideas
•Scientific capabilities
•Capacity to innovate
Reputational Resources •Brand name
•Perceptions of product quality, durability, and reliability
•Positive reputation with stakeholders such as suppliers and customers
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o Compared to tangible resources, intangible resources are a superior source of core competencies.
 In fact, in the global economy, “the success of a corporation lies more in its intellectual and systems capabilities
than in its physical assets. [Moreover], the capacity to manage human intellect—and to convert it into useful
products and services—is fast becoming the critical executive skill of the age.
 Because intangible resources are less visible and more difficult for competitors to understand, purchase, imitate,
or substitute for, firms prefer to rely on them rather than on tangible resources as the foundation for their
capabilities and core competencies. In fact, the more unobservable (i.e., intangible) a resource is, the more
sustainable will be the competitive advantage that is based on it. Another benefit of intangible resources is that,
unlike most tangible resources, their use can be leveraged.
 Capabilities
o Represent the capacity to deploy resources that have been purposely integrated to achieve a desired end state
o Emerge over time through complex interactions among tangible and intangible resources
o Often are based on developing, carrying and exchanging information and knowledge through the firm’s human capital
o The foundation of many capabilities lies in:
 The unique skills and knowledge of a firm’s employees
 The functional expertise of those employees
o Capabilities are often developed in specific functional areas or as part of a functional area.
o Integrated set of resources that are used to achieve a specific task or set of tasks
Functional Areas Capabilities
Distribution Effective use of logistics management techniques
Human Resources Motivating, empowering, and retaining employees
Management Information Systems Effective and efficient inventory control
Marketing Innovative merchandising, effective promotion of brand-name products, effective
customer service
Management Ability to envision the future, effective organization structure
Manufacturing Design and production skills
Research & Development Innovative technology
 Core Competencies
o Resources and capabilities that are the sources of a firm’s competitive advantage:
 Distinguish a firm competitively and reflect its personality.
 Emerge over time through an organizational process of accumulating and learning how to deploy different
resources & capabilities
o Activities that a firm performs especially well compared to competitors.
o Activities through which the firm adds unique value to its goods or services over a long period of time.
 Two ways to test core competencies: Resource-based framework (VRIN), value chain analysis
 How many core competencies are required for the firm to have a sustained competitive advantage?
o Responses to this question vary. McKinsey & Co. recommends that its clients identify no more than three or four
competencies around which their strategic actions can be framed. Supporting and nurturing more than four core
competencies may prevent a firm from developing the focus it needs to fully exploit its competencies in the marketplace.
Building Core Competencies – VRIN

 Resource-Based Framework: Test of Sustainable Strategic Capabilities / Competitive Advantage
Valuable Help to exploit opportunities or neutralize threats
Rare Not possessed by many others
Costly-to-imitate Resources that have diseconomies of time (takes time to release the resources)
Unique historical conditions (A unique and a valuable organizational culture or brand name)
Causally ambiguous: causes and uses of competence unclear
Socially complex: interpersonal relationships, trust and friendship among managers, suppliers, customers
Non-substitutable Do not have strategic equivalents (i.e., no other resources/capabilities that can provide the same value)
e.g. Firm-specific knowledge, Organizational culture, Superior execution of the chosen business model
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 Competitive consequences (VRIN Analysis)

Costly to Non-
Valuable Rare? Imitate? substitutable Competitive Consequences Performance Implications
N N N N Competitive Disadvantage Below Average Returns
Y N N Y/N Competitive Parity Average Returns
Y Y N Y/N Temporary Competitive Advantage Above Average to Average Returns
Y Y Y Y Sustainable Competitive Advantage Above Average Returns
 Value Chain Analysis

o Allows a firm to identify and evaluation the competitive potential of resources and capabilities
 Shows how a product moves from the raw-material stage to the final customer.
 Understand firm’s cost position.
 Identify multiple means that might be used to facilitate implementation of a chosen business-level strategy.
o To be a source of competitive advantage, a resource or capability must allow the firm:
 To perform an activity in a manner that is superior to the way competitors perform it, or
 To perform a value-creating activity that competitors cannot complete.
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Outsourcing
 When the firm cannot create value in either a value chain activity or support function, consider outsourcing
 Outsourcing – The purchase of a value-creating activity from an external supplier
o Few organizations possess the resources and capabilities required to achieve competitive superiority in all primary and
support activities.
 Rationale
o By performing fewer capabilities:
 A firm can concentrate on those areas in which it can create value.
 Specialty suppliers can perform outsourced capabilities more efficiently.
o Improving business focus
 Helps a firm focus on broader business issues by having outside experts handle various operational details.
o Providing access to world-class capabilities
 The specialized resources of outsourcing providers make world-class capabilities available to firms in a wide range
of applications.
o Accelerating re-engineering benefits
 Achieves re-engineering benefits more quickly by having outsiders—who have already achieved world-class
standards—take over process.
o Sharing risks
 Reduces investment requirements and makes firm more flexible, dynamic and better able to adapt to changing
opportunities.
o Freeing resources for other purposes
 Redirects efforts from non-core activities toward those that serve customers more effectively.
 Issues with outsourcing
o Seeking greatest value
 Outsource only to firms possessing a core competence in terms of performing the primary or supporting the
outsourced activity.
o Evaluating resources and capabilities
 Do not outsource activities in which the firm itself can create and capture value.
o Environmental threats and ongoing tasks
 Do not outsource primary and support activities that are used to neutralize environmental threats or to complete
necessary ongoing organizational tasks.
o Nonstrategic team resources
 Do not outsource capabilities critical to the firm’s success, even though the capabilities are not actual sources of
competitive advantage.
o Firm’s knowledge base
 Do not outsource activities that stimulate the development of new capabilities and competencies.
 purchase of a value-creating activity from an external supplier
Outsourcing can be effective because few, if any, organizations possess the resources and capabilities required to
achieve competitive superiority in all primary and support activities. By nurturing a smaller number of capabilities, a firm
increases the probability of developing a competitive advantage because it does not become overextended. In addition,
by outsourcing activities in which it lacks competence, the firm can fully concentrate on those areas in which it can
create value. Firms must outsource only activities where they cannot create value or where they are at a substantial
disadvantage compared to competitors.
There could be potential loss in firms’ innovative ability and the loss of jobs within companies that decide to outsource
some of their work activities to others. Thus, innovation and technological uncertainty are two important issues to
consider in making outsourcing decisions. However, firms can also learn from outsource suppliers how to increase their
own innovation capabilities.
Competencies, Strengths, Weaknesses & Strategic Decisions

 Cautions and Reminders:
o Never take for granted that core competencies will continue to provide a source of competitive advantage.
o All core competencies have the potential to become core rigidities—former core competencies that now generate inertia
and stifle innovation.
o Determining what the firm can do through continuous and effective analyses of its internal environment will increase the
likelihood of long-term competitive success
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Seminar 4 Business Level Strategy

o Present Porter’s 3 generic business strategy and the 4th integrated cost and differentiation strategy
o Discuss factors that impact choice of business strategy
Customers & Business Level Strategy

 Busies Level Strategy is an integrated and coordinated set of commitments and actions the firm uses to gain a competitive
advantage by exploiting core competencies in specific product markets
 Purpose
o How to compete in industry or industry segment?
 Making choices about one’s products/services and activities that are intended to create differences between the
firm’s competitive position relative to those of its rivals.
 The firm’s competitive position should lead to a competitive advantage over rivals (i.e., above-average returns).
o To position itself, the firm must decide whether it intends to
 Perform activities differently or
 Perform different activities as compared to its rivals
 In terms of customers, firms must manage all aspects of their relationship with customers:
o Reach: firm’s access and connection to customers
o Richness: depth and detail of two-way flow of information between firm and customer
o Affiliation: facilitation of useful interactions with customers
 When selecting a business-level strategy the firm determines
o (1) who will be served
 Market Segmentation: a process used to cluster people with similar needs into individual and identifiable groups
Consumer Markets
Demographic  Age, income, gender etc
Socioeconomic  social class, stage in the family life cycle
Geographic  cultural, regional, and national differences
Psychological  lifestyle, personality traits
Consumption patterns  heavy, moderate, light user
Perceptual  benefit segmentation, perceptual mapping
Industrial Markets
End-use segments  identified by SIC code
Product Segments  based on technological differences or production economies
Geographic Segments  defined by boundaries between countries or by regional differences within them
Common Buying Factor  cut across product market and geographic segment
Segments
Customer Size Segment
o (2) what needs those target customers have that it will satisfy
 Customer needs are related to a product’s benefits and features
 Customer needs represent desires in terms of features and performance capabilities
o (3) how those needs will be satisfied
 Determining core competencies necessary to satisfy customer needs
 Only firms with capacity to continuously improve, innovate and upgrade their competencies can expect to meet
and exceed customer expectations across time
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Types of Business Strategies – Porter’s Three Generic Business Strategies
Competitive Advantage
Competitive Scope
 Competitive Advantage:
o Achieving lower overall costs than rivals
 Performing activities differently (reducing process costs)
o Possessing the capability to differentiate the firm’s product or service and command a premium price
 Performing different (more highly valued) activities.
 Competitive Scope
o Broad Scope
 The firm competes in many customer segments.
o Narrow Scope
 The firm selects a segment or group of segments in the industry and tailors its strategy to serving them at the
exclusion of others.
Cost Leadership Strategy

 An integrated set of actions taken to produce goods or services with features that are acceptable to customers at the lowest
cost, relative to that of competitors.
 Product Characteristics
o Relatively standardized (commoditized) products
o Features broadly acceptable to many customers
o Lowest competitive price
 Cost Saving Actions

o Determine and Control Cost Drivers
 Alter production process, Change in automation
 New distribution channel, Direct sales in place of indirect sales, New advertising media
o Reconfigure Value Chain if needed
 New raw material
 Forward / Backward integration
 Change location relative to suppliers or buyers
 Competitive Risks
o Processes used to produce and distribute good or service may become obsolete due to competitors’ innovations.
o Too much focus on cost reductions may occur at expense of customers’ perceptions of differentiation.
o Competitors, using their own core competencies, may successfully imitate the cost leader’s strategy.
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 Porter’s Five Forces

o Rivalry with existing competitors
 Due to cost leader’s advantageous position:
 Rivals hesitate to compete on basis of price.
 Lack of price competition leads to greater profits.
o Bargaining power of buyers
 Can mitigate buyers’ power by:
 Driving prices far below competitors, causing them to exit, thus shifting power with buyers (customers) back to
the firm.
o Bargaining power of suppliers
 Can mitigate suppliers’ power by:
 Being able to absorb cost increases due to low cost position.
 Being able to make very large purchases, reducing chance of supplier using power
o Threat of Potential Entrants
 Can frighten off new entrants due to:
 Their need to enter on a large scale in order to be cost competitive.
 The time it takes to move down the industry learning curve.
o Product Substitutes
 Cost leader is well positioned to:
 Lower prices in order to maintain its value position.
 Make investments to add features unavailable in substitutes.
 Buy intellectual property and patents developed by potential substitutes.
Examples of Value Adding Activities associated with Cost Leadership Strategy
Differentiation Strategy
 An integrated set of actions taken to produce goods or services (at an acceptable cost) that customers perceive as being
different in ways that are important to them.
o Focus is on non-standardized products
o Appropriate when customers value differentiated features more than they value low cost.
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 Actions to achieve Differentiation

o Control Cost Drivers if needed
 Lower buyer’s cost
o Reconfigure Value Chain to maximise
 Raise performance of product or service
 Create sustainability through:
 Customer perceptions of uniqueness
 Customer reluctance to switch to non-unique product or service
o The price differential between the differentiator’s product and the cost leader’s product becomes too large.
 Differentiation ceases to provide value for which customers are willing to pay.
 Experience narrows customers’ perceptions of the value of differentiated features.
 Counterfeit goods replicate the differentiated features of the firm’s products.
 Porter’s Five Forces

o Rivalry with existing competitors
 Defends against competitors because customer’s brand loyalty to differentiated product offsets price competition
o Bargaining power of Buyers
 Can mitigate buyer’s power as well differentiated products reduce customer sensitivity to price increases
o Bargaining power of Suppliers
 Can mitigate supplier’s power by:
 Absorbing price increases due to higher margins.
 Passing along higher supplier prices because buyers are loyal to differentiated brand.
o Threat of potential new entrant
 Can defend against new entrants because:
 New products must surpass proven products.
 New products must be at least equal to performance of proven products, but offered at lower prices.
o Product substitute
 Well positioned relative to substitutes because:
 Brand loyalty tends to reduce customers’ testing of new products or switching brands.
Value Creating Activities associated with Differentiation Strategy
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Focus Strategies
 An integrated set of actions taken to produce goods or services that serve the needs of a particular competitive segment.
o Particular buyer group—youths or senior citizens
o Different segment of a product line—professional craftsmen versus do-it-yourselves
o Different geographic markets—East coast versus West coast
 To implement a focus strategy, firms must be able to:
o Complete various primary and support activities in a competitively superior manner, in order to develop and sustain a
competitive advantage and earn above-average returns.
 Factors that drive focused strategies:
o Large firms may overlook small niches.
o A firm may lack the resources needed to compete in the broader market.
o A firm is able to serve a narrow market segment more effectively than can its larger industry-wide competitors.
o Focusing allows the firm to direct its resources to certain value chain activities to build competitive advantage.
 Competitive Risk
o A focusing firm may be “outfocused” by its competitors.
o A large competitor may set its sights on a firm’s niche market.
o Customer preferences in niche market may change to more closely resemble those of the broader market.
Integrated Cost Leadership/Differentiation Strategy

 A firm that successfully uses an integrated cost leadership/differentiation strategy should be in a better position to:
o Adapt quickly to environmental changes.
o Learn new skills and technologies more quickly.
o Effectively leverage its core competencies while competing against its rivals.
 Commitment to strategic flexibility is necessary for implementation of integrated cost leadership/ differentiation strategy.
o Flexible manufacturing systems (FMS)
 Computer-controlled processes used to produce a variety of products in moderate, flexible quantities with a
minimum of manual intervention.
 Goal is to eliminate the “low-cost-versus-wide product-variety” tradeoff.
 Allows firms to produce large variety of products at relatively low costs.
o Information networks (CRM)
 Link companies electronically with their suppliers, distributors, and customers.
 Facilitate efforts to satisfy customer expectations in terms of product quality and delivery speed.
 Improve flow of work among employees in the firm and their counterparts at suppliers and distributors.
 Customer relationship management (CRM)
o Total quality management (TQM) systems
 Emphasize total commitment to the customer through continuous improvement using:
 Data-driven, problem-solving approaches
 Empowerment of employee groups and teams
 Benefits
 Increased customer satisfaction
 Lower input and operating process costs
 Reduced time-to-market for innovative products
o Often involves compromises
 Becoming neither the lowest cost nor the most differentiated firm.
o Becoming “stuck in the middle”
 Lacking the strong commitment and expertise that accompanies firms following either a cost leadership or a
differentiated strategy.
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Seminar 5 Corporate Strategy

o Categorize different types of product diversification
o Understand the motives for product diversification
o Understand how to use a portfolio management tool
o Understand broadly how corporate strategy can influence firm performance
 Corporate-level strategy specifies actions a firm takes to gain a competitive advantage by selecting and managing a group of
different businesses competing in different product markets
 Objective: to create a sustainable competitive advantage at the corporate level of a diversified (i.e., multi business unit) firm
o The primary reason a firm uses a corporate-level strategy to become more diversified is to create additional value. Using
a single- or dominant-business corporate-level strategy may be preferable to seeking a more diversified strategy, unless a
corporation can develop economies of scope or financial economies between businesses, or unless it can obtain market
power through additional levels of diversification. Economies of scope and market power are the main sources of value
creation when the firm diversifies by using a corporate-level strategy with moderate to high levels of diversification.
 Key Issues:
o The degree to which the businesses in the portfolio are worth more under the management of the firm than they would
be under other ownership.
o What businesses should the firm be in?
o How should the corporate office manage the group of businesses?
Diversification
 Diversification strategies play a major role in the behaviour of large firms.
 Product diversification concerns:
o The scope of the industries and markets in which the firm competes.
o How managers buy, create and sell different businesses to match skills and strengths with opportunities presented to the
firm.
 Levels of Diversification
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 Reasons for Diversification

Value-Creating Diversification (Economic) Value-Neutral Diversification Value-Reducing Diversification
 Economies of scope (related diversification)  Antitrust regulation  Diversifying managerial

o Sharing activities  Tax laws employment risk
o Transferring core competencies  Low performance  Increasing managerial
 Market power (related diversification)  Uncertain future cash flows compensation
o Blocking competitors through multipoint  Risk reduction for firm
competition  Tangible resources
o Vertical integration  Intangible resources
 Financial economies (unrelated
diversification)
o Efficient internal capital allocation
o Business restructuring
Value Creating Diversification - Related Constrained & Related Linked Diversification
Vertical Integration Rare capability that creates

(Market Power) diseconomies of scope
Financial Diseconomies Economies of Scope
Through corporate HQ
 Related Diversification (Economic)
o Firms create value by building upon or extending:
 Resources
 Capabilities
 Core competencies
Economies of Scope
 Economies of Scope – Cost savings that occur when a firm transfers capabilities and competencies developed in one of its
businesses to another of its businesses.
 Value is created from economies of scope through:
o Operational relatedness in sharing activities
o Corporate relatedness in transferring skills or corporate core competencies among units.
 The difference between sharing activities and transferring competencies is based on how the resources are jointly used to
create economies of scope.
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(1) Related Constrained Diversification

 Sharing Activities – Operational Relatedness
o Created by sharing either a primary activity such as inventory delivery systems, or a support activity such as purchasing.
o Activity sharing requires sharing strategic control over business units.
o Activity sharing may create risk because business-unit ties create links between outcomes.
 If one business’s product demand is reduced, there might be insufficient revenue to cover the fixed costs required
to operate the shared facility
(2) Related Linked Diversification
 Transferring Core Competencies - Corporate Relatedness
o Using complex sets of resources and capabilities to link different businesses through managerial and technological
knowledge, experience, and expertise.
o Creates value in two ways:
 Eliminates resource duplication in the need to allocate resources for a second unit to develop a competence that
already exists in another unit.
 Provides intangible resources (resource intangibility) that are difficult for competitors to understand and imitate.
 A transferred intangible resource gives the unit receiving it an immediate competitive advantage over its rivals.
Market Power
 Market power exists when a firm can:
o Sell its products above the existing competitive level and/or
o Reduce the costs of its primary and support activities below the competitive level.
 Multipoint Competition
o Market power through diversification may be gained through multipoint competition if
 Two or more diversified firms simultaneously compete in the same product areas or geographic markets.
 Vertical Integration (make vs buy decision)
o Backward integration—a firm produces its own inputs.
o Forward integration—a firm operates its own distribution system for delivering its outputs.
o Developing the ability to save on its operations; Avoiding market cost; Improving product quality protecting its
technology from its rival; Preventing hold up
(3) Simultaneous Operational Relatedness and Corporate Relatedness

 Involves managing two sources of knowledge simultaneously:
o Operational forms of economies of scope
o Corporate forms of economies of scope
 Many such efforts often fail because of implementation difficulties.
o If cost outweighs benefit  diseconomies because the cost of organisation and incentive structure is very expensive
Financial Economies
(4) Unrelated Diversification
 Firms implementing unrelated diversification strategies hope to create value by realising financial economies
 Cost savings realized through improved allocations of financial resources.
o Based on investments inside or outside the firm
 Create value through two types of financial economies:
o Efficient internal capital allocations
o Purchase of other corporations and the restructuring their assets
 Efficient Internal Capital Market Allocation

o Corporate office distributes capital to business divisions to create value for overall company.
 Corporate office gains access to information about those businesses’ actual and prospective performance.
 Outside investors have limited success to internal information and can only estimate decision performance
 An internal capital market may enable the firm to safeguard information related to its source of competitive
advantage that otherwise might have to be disclosed
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 With an internal capital market, the corporate office can adjust managerial incentives or can suggest strategic
changes to make the desired corrections
o Conglomerate life cycles are fairly short life cycle because financial economies are more easily duplicated by competitors
than are gains from operational and corporate relatedness.
 Less of a concern in emerging economies. This is due to inefficient external capital market, unable to raise capital
 Restructuring of Assets
o A firm creates value by buying, restructuring and selling other firms’ assets in the external market.
o Resource allocation decisions may become complex, so success often requires:
 Focus on mature, low-technology businesses (low intangibles)
 Focus on businesses not reliant on a client orientation.
Value-Neutral Diversification
(1) External Incentive to Diversify
 Antitrust Legislation
o Antitrust laws in 1960s – 70s discouraged mergers that created increased market power (vertical/horizontal integration.
o Mergers in the 1960s and 1970s thus tended to be unrelated.
o Relaxation of antitrust enforcement results in more and larger horizontal mergers.
o Early 2000: antitrust concerns seem to be emerging and mergers now more closely scrutinized.
 Tax Laws
o High tax rates on dividends cause a corporate shift from dividends to buying and building companies in high-
performance industries.
o 1986 Tax Reform Act
 Reduced individual ordinary income tax rate from 50 to 28 percent. Treated capital gains as ordinary income.
 Created incentive for shareholders to prefer dividends to acquisition investments
(2) Internal Incentive to Diversify
 Poor performance
o High performance eliminates the need for greater diversification, Low performance acts as incentive for diversification.
o Firms plagued by poor performance often take higher risks (diversification is risky).
 Uncertain Future Cash flows
o Diversification may be defensive strategy if:
 Product line matures, Product line is threatened, Firm is small and is in mature or maturing industry.
 Synergy & Firm Risk Reduction
o Synergy exists when value created by businesses working together exceeds value created by them working independently
o However, synergy creates joint interdependence between business units
o A firm may become risk averse and constrain its level of activity sharing
o A firm may reduce level of technological change by operating in more certain environments.
(3) Resources
 Firm must have both the incentive and resources required to create value through diversification (cash and tangibles – PPE)
 Value creation is determined more by appropriate use of resources than by incentives to diversify.
 Strategic competitiveness is improved when the level of diversification is appropriate for the level of available resources.
Value-Reducing Diversification
 Managerial motives to diversify:
o Managerial risk reduction
o Desire for increased compensation
o Build personal performance reputation
 Effects of inadequate internal firm governance
o Diversification fails to earn even average returns
o Threat of hostile takeover
o Self-interest actions of entrenched management
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Seminar 6 International Strategy

o Understand the motives for international / geographic diversification
o Identify the sources of national advantage
o Categorize different types of geographic diversification
o Identify different modes of entry
o Understand the concept of the “Liability of Foreignness”
International strategy: a strategy through which the firm sells its goods and services outside its domestic market
Opportunities and Outcomes of International Strategy
International Opportunities
 Incentives to use International Strategy
 New market expansion extends product life cycle.
 Gain access to materials and resources.
 Integration of operations on a global scale
 Better use of rapidly developing technologies
 International markets yield potential new opportunities (access to consumers in emerging markets)
 Traditional Economic Model
Production is
Firms Introduces Product demand Foriegn
Firms begins standardised and
innovation in develops and firm competition
production abroad relocated to low
domestic market exports products begins production
cost countries
o Recent internationalisations in India and Chinese firms – cannot be explained by traditional economic model
 Increasing outflow of capital from developing countries
 Natural consequence of diversification of EOS
 Latecomer firms venture out to explore higher RoR due to increased level of competition in domestic market
 Attempt to acquire strategic assets outside their home country
 Example – XiaoMi
 Affordable smartphone producer
 China market is saturated and they are expanding into USA through partnership with Microsoft.
 Challenges:
 Higher BTE due to customer loyalty. Customers are accustomed to Apple, Samsung etc
 Regulations, Taxation, Proprietary Rights or Patents
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 Benefits
o Increased Market Size
 Domestic market may lack the size to support efficient scale manufacturing facilities.
o Economies of Scale (or Learning)
 Expanding size or scope of markets helps to achieve economies of scale in manufacturing as well as marketing,
R&D or distribution.
 By standardising products across national borders, firms can spread costs over a larger sales base.
 Can increase profit per unit.
o Location Advantages
 Low cost markets aid in developing competitive advantage by providing access to:
 Raw materials, Transportation, Lower costs for labour, Key customers, Energy
International Business Level Strategy

 Determinants of National Advantage
 Factors of production
o The inputs necessary to compete in any industry
 Labour, Land, Natural resources, Capital, Infrastructure
o Basic factors: Natural and labour resources
o Advanced factors: Digital communication systems and an educated workforce
 Demand Conditions
o Characterized by the nature and size of buyers’ needs in the home market for the industry’s goods or services.
 Size of the market segment can lead to scale-efficient facilities.
 Efficiency can lead to domination of the industry in other countries.
 Specialized demand may create opportunities beyond national boundaries.
 Related and Supporting Industries
o Supporting services, facilities, suppliers and so on.
 Support in design
 Support in distribution
 Related industries as suppliers and buyers
 E.g. Italy was world leader in shoe industry because mature leather processing industry
 Firm Strategy, Structure and Rivalry
o The pattern of strategy, structure, and rivalry among firms.
 Common technical training
 Methodological product and process improvement
 Cooperative and competitive systems
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International Corporate-Level Strategy

 The type of corporate strategy selected will impact the selection and implementation of the business-level strategies.
o Some strategies provide individual country units with the flexibility to choose their own strategies.
o Other strategies dictate business-level strategies from the home office and coordinate resource sharing across units.
 International Corporate Level Strategy
o Focuses on the scope of operations in terms of
 Product diversification
 Geographic diversification
o Required when the firm operates in
 Multiple industries, and
 Multiple countries or regions
o Headquarters unit guides the strategy
 But business or country-level managers can have substantial strategic input.
Types of International Corporate-Level Strategy
Multidomestic Strategy Global Strategy Transnational Strategy

Assumption Assumption Assumption
 Markets differ by country or regions  Markets share significant similarities  Markets share some similarities
Characteristics & Traits Characteristics & Traits Characteristics & Traits
 Strategy and operating decisions  Business-level strategic decisions  Seeks to achieve both global
are decentralized to strategic are centralized in the home office. efficiency and local responsiveness.
business units (SBU) in each  Products are standardized across  Difficult to achieve because of
country. national markets. simultaneous requirements for:
 Products and services are tailored  Strategic business units (SBU) are o Strong central control and
to local markets. Focus on assumed to be interdependent. coordination to achieve
localisation Potential Outcomes efficiency
 Business units in one country are  Strong economies of scale and o Decentralization to achieve local
independent of each other. efficient operations market responsiveness
Potential Outcomes  Often lacks responsiveness to local  Pursuit of organizational learning to
 Responsiveness to local needs markets. achieve competitive advantage.
 Lack of EOS  Requires resource sharing and Potential Outcomes
 Weak Corporate HQ coordination across borders (hard  Challenges with implementation
 Prominent strategy among to manage) complexity
European firms due to broad variety  Dual benefit from domestic and
of cultures and markets in Europe. global approaches
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Environmental Trends
 Liability of Foreignness
o Costs associated with issues firm face when entering foreign market
 Unfamiliar operating environments: economic, administrative, cultural differences
 Challenge of coordination over distances: cultural, administrative, geographic, economic
 E.g. Disney lawsuit over Disneyland Paris due to lack of fit between transferred personnel policies.
o Legitimate concerns about the relative attractiveness of global strategies
o Global strategies not as prevalent as once thought
o Difficulty in implementing global strategies
 Regionalization
o Focusing on particular region(s) rather than on global markets
o Better understanding of the cultures, legal and social norms
o Further promoted by trade agreements in regions. E.g. EU and NAFTA
International Mode of Entry
Situation
Firm has no foreign

manufacturing expertise and
requires investment only in
Firm sends products it produces distribution
in domestic market to
international markets
Firm needs to facilitate the
product improvements necessary
Agreement that allows foreign to enter foreign markets
company to purchase rights to
manufacture and sell pdts
The firm needs to connect with
within host country’s market
an experienced partner already
in the targeted market and to
reduce its risk through the
Firm collaborates with another sharing of costs/ Facing uncertain
company situations e.g. emerging
economy in target market
The firm needs rapid cross-

border access to new
Firm acquires another international markets
company to enter into
international market
Firm’s intellectual property rights
in emerging market is not well
protected. Number of firms in
the industry is growing fast and
Greenfield Venture the need for global integration is
high
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Risks & Challenges in International Environment

Risks
 Political Risk
o Instability in national governments
o War, both civil and international
o Potential nationalization of a firm’s resources
 Economic Risk
o Differences and fluctuations in the value of different currencies
o Differences in prevailing wage rates
o Difficulties in enforcing property rights
o Unemployment
Challenges
 Complexity of Managing International Strategies
o Expansion into global operations in different geographic locations or markets:
 Makes implementing international strategy increasingly complex.
 Can produce greater uncertainty and risk., May result in the firm becoming unmanageable
 May cause the cost of managing the firm to exceed the benefits of expansion.
 Exposes the firm to possible instability of some national governments.
 Limits to International Expansion
o Management Problems (ability of managers to deal with ambiguity and complexity)
 Cost of coordination across diverse geographical business units
 Institutional and cultural barriers, Understanding strategic intent of competitors
 The overall complexity of competition
Strategic Competitiveness Outcomes

Expanding sales of goods or services across global regions and countries and into different geographic locations or markets:
 International Diversification and Returns
o May increase a firm’s returns (such firms usually achieve the most positive stock returns).
o May achieve economies of scale and experience, location advantages, increased market size and stabilize returns
 Enhanced Innovation
o May yield potentially greater returns on innovations (a larger market).
o Can generate additional resources for investment in innovation.
o Provides exposure to new products and processes in international markets; generates additional knowledge leading to
innovations. Transfer of best practices
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Seminar 7 Merger & Acquisition

o Understand the motives and types of acquisitions
o Understand the various stages of an acquisition process
o Identify challenging issues during an acquisition process and potential remedies
o Identify attributes for successful acquisitions
 Merger
o Two firms agree to integrate their operations on a relatively co-equal basis.
 Acquisition
o One firm buys a controlling, or 100% interest in another firm with the intent of making the acquired firm a subsidiary
business within its portfolio.
 Takeover
o An acquisition in which the target firm did not solicit the acquiring firm’s bid for outright ownership.
Reasons for Acquisitions

(1) Increased Market Power
 Factors increase market power when:
o There is the ability to sell goods or services above competitive levels.
o Costs of primary or support activities are below those of competitors.
o A firm’s size, resources and capabilities gives it a superior ability to compete.
 Acquisitions intended to increase market power are subject to:
o Regulatory review
o Analysis by financial markets
 Market power is increased by:

o Horizontal acquisitions of other firms in the same industry
 Acquisition of a firm in the same industry in which the acquiring firm competes increases a firm’s market power
by exploiting:
 Cost-based synergies
 Revenue-based synergies
 Acquisitions with similar characteristics result in higher performance than those with dissimilar characteristics
o Vertical acquisitions of suppliers or distributors of the acquiring firm
 Acquisition of a supplier or distributor of one or more of the firm’s goods or services
 Increases a firm’s market power by controlling additional parts of the value chain.
o Related acquisitions of firms in related industries
 Acquisition of a firm in a highly related industry
 Because of the difficulty in attaining synergy, related acquisitions are often difficult to implement.
(2) Overcoming Entry Barriers
 Entry Barriers
o Factors associated with the market or with the firms operating in it that increase the expense and difficulty for new
firms in gaining immediate market access.
 Economies of scale
 Differentiated products
 Cross-Border Acquisitions
o Acquisitions made between firms with headquarters in different countries
 Are often made to overcome entry barriers.
Can be difficult to negotiate and operate because of the differences in foreign cultures.
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(3) Cost of New Product Development and Increased Speed to Market

 Internal development of new products is often perceived as a high-risk activity.
o Acquisitions allow a firm to gain access to new and current products that are new to the firm.
o Returns are more predictable because of the acquired firms’ past experience with its products.
(4) Lower Risk Compared to Developing New Products
 An acquisition’s outcomes can be estimated more easily and accurately than the outcomes of an internal product
development process.
o Managers may view acquisitions as lowering risk associated with internal ventures and R&D investments.
o Acquisitions may discourage or suppress innovation.
(5) Increased Diversification
 Using acquisitions to diversify a firm is the quickest and easiest way to change its portfolio of businesses.
 Both related diversification and unrelated diversification strategies can be implemented through acquisitions.
 The more related the acquired firm is to the acquiring firm, the greater the probability that the acquisition will be
successful.
(6) Reshaping the firm’s Competitive Scope
 An acquisition can:
o Reduce the negative effect of an intense rivalry on a firm’s financial performance.
o Reduce a firm’s dependence on one or more products or markets.
 Reducing a firm’s dependence on specific markets alters the firm’s competitive scope.
(7) Learning & Developing New Capabilities
 An acquiring firm can gain capabilities that the firm does not currently possess:
o Special technological capability
o A broader knowledge base
o Reduced inertia
 Firms should acquire other firms with different but related and complementary capabilities in order to build their own
knowledge base.
Problems in Acquisitions
(1) Integration Difficulties
 Integration challenges include:
o Melding two disparate corporate cultures
o Linking different financial and control systems
o Building effective working relationships (particularly when management styles differ)
o Resolving problems regarding the status of the newly acquired firm’s executives
o Loss of key personnel weakens the acquired firm’s capabilities and reduces its value
(2) Inadequate Evaluation of Target
 Due Diligence
o The process of evaluating a target firm for acquisition
o Ineffective due diligence may result in paying an excessive premium for the target company.
 Evaluation requires examining:
o Financing of the intended transaction
o Differences in culture between the firms
o Tax consequences of the transaction
o Actions necessary to meld the two workforces. Mitigate potential conflicts
(3) Large or Extraordinary Debt
 High debt (e.g., junk bonds) can:
o Increase the likelihood of bankruptcy
o Lead to a downgrade of the firm’s credit rating
o Preclude investment in activities that contribute to the firm’s long-term success such as:
 Research and development, Human resource training & Marketing
(4) Inability to Achieve Synergy
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 Synergy
o When assets are worth more when used in conjunction with each other than when they are used separately.
o Firms experience transaction costs when they use acquisition strategies to create synergy.
 Firms tend to underestimate indirect costs when evaluating a potential acquisition.
 Private synergy
o When the combination and integration of the acquiring and acquired firms’ assets yields unique capabilities and core
competencies that could not be developed by combining and integrating either firm’s assets with another firm.
 Advantage: It is difficult for competitors to understand and imitate.
 Disadvantage: It is also difficult to create.
(5) Too much Diversification
 Diversified firms must process more information of greater diversity.
o Increased operational scope created by diversification may cause managers to rely too much on financial rather than
strategic controls to evaluate business units’ performances.
o Strategic focus shifts to short-term performance.
o Acquisitions may become substitutes for innovation.
(6) Managers overly focused on Acquisition
 Managers invest substantial time and energy in acquisition strategies in:
o Searching for viable acquisition candidates.
o Completing effective due-diligence processes
o Preparing for negotiations
o Managing the integration process after the acquisition is completed.
 Managers in target firms
o May begin to operate in a state of virtual suspended animation during an acquisition.
o May become hesitant to make decisions with long-term consequences until negotiations have been completed.
o May develop a short-term operating perspective and a greater aversion to risk.
(7) Too Large
 Additional costs of controls may exceed the benefits of the economies of scale and additional market power.
 Larger size may lead to more bureaucratic controls.
 Formalized controls often lead to relatively rigid and standardized managerial behaviour.
 The firm may produce less innovation.
Effective Acquisition
Attributes Results
1. Acquired firm has assets or resources that are 1.High probability of synergy and competitive advantage by
complementary to the acquiring firm’s core business maintaining strengths
2. Acquisition is friendly 2. Faster and more effective integration and possibly lower
premiums
3. Acquiring firm conducts effective due diligence to select 3.Firms with strongest complementarities are acquired and
target firms and evaluate the target firm’s health (financial, overpayment is avoided
cultural, and human resources)
4. Acquiring firm has financial slack (cash or a favourable 4. Financing is easier and less costly to obtain.
debt (position) Provide sufficient additional resources so that profitable
projects will not be forgone
5. Merged firm maintains low to moderate debt position 5. Lower financing cost, lower risk (e.g., of bankruptcy), and
avoidance of trade-offs that are associated with high debt
Merged firm maintain financial flexibility
6. Acquiring firm has sustained and consistent emphasis on 6. Maintain long-term competitive advantage in markets
R&D and innovation
7. Acquiring firm manages change well and is flexible and 7. Faster and more effective integration facilitates
adaptable achievement of synergy
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Restructuring
 A strategy through which a firm changes its set of businesses or financial structure.
o Failure of an acquisition strategy often precedes a restructuring strategy.
o Restructuring may occur because of changes in the external or internal environments.
Restructuring strategies:
 Downsizing
o A reduction in the number of a firm’s employees and sometimes in the number of its operating units.
 May or may not change the composition of businesses in the firm’s portfolio.
o Typical reasons for downsizing:
 Expectation of improved profitability from cost reductions
 Desire or necessity for more efficient operations
 Downscoping
o A divestiture, spin-off or other means of eliminating businesses unrelated to a firm’s core businesses.
o A set of actions that causes a firm to strategically refocus on its core businesses.
 May be accompanied by downsizing, but not the elimination of key employees from its primary businesses.
 Results in a smaller firm that can be more effectively managed by the top management team.
 Leveraged buyouts
o A restructuring strategy whereby a party buys all of a firm’s assets in order to take the firm private.
 Significant amounts of debt may be incurred to finance the buyout, followed by an immediate sale of non-core
assets to pare down debt.
o Can correct for managerial mistakes
 Managers making decisions that serve their own interests rather than those of shareholders.
o Can facilitate entrepreneurial efforts and strategic growth.
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Seminar 8 Cooperative Strategy

o Understand the make-up of a strategic alliance
o Identify the various forms of a strategic alliance
o Identify the types of business-level and organizational-level strategic alliances
o Identify the competitive risks within strategic alliances and potential remedies
 Cooperative Strategy
o A strategy in which firms work together to achieve a shared objective.
 Cooperating with other firms is a strategy that:
o Creates value for a customer.
o Exceeds the cost of constructing customer value in other ways.
o Establishes a favourable position relative to competitors.
Strategic Alliance
 A primary type of cooperative strategy in which firms combine some of their resources and capabilities to create a mutual
o Involves the exchange and sharing of resources and capabilities to co-develop or distribute goods and services.
o Requires cooperative behaviour from all partners.
 Examples of cooperative behaviour known to contribute to alliance success:
o Actively solving problems.
o Being trustworthy.
o Consistently pursuing ways to combine partners’ resources and capabilities to create value.
 Collaborative (Relational) Advantage
o A competitive advantage developed through a cooperative strategy.
 Types of Strategic Alliances

o Joint Venture
 Two or more firms create a legally independent company by sharing some of their resources and capabilities.
 Tacit knowledge, to develop core competencies, is learned through JV cooperation experiences
 Optimal for firms that
 Need to create a competitive advantage that is substantially different from any they possess individually
 Intend to enter highly uncertain, hypercompetitive markets
o Equity Strategic Alliance
 Partners who own different percentages of equity in a separate company they have formed.
 Mainly for capital infusion and changing strategy
o Non-equity Strategic Alliance
 Two or more firms develop a contractual relationship to share some of their unique resources and capabilities.
 Less formal, less commitment
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 Reasons for Strategic Alliances
Unstable & Complex
Seek sources of new Complementary resources

competitive advantage and capabilities
Business Level Cooperative Strategy

 Business level cooperative strategy is where firms combine some of their resources and capabilities to create a competitive
advantage by competing in one or more product markets.
(1) Complementary Alliances
o Combine partner firms’ assets in complementary ways to create new value.
o Include distribution, supplier or outsourcing alliances where firms rely on upstream or downstream partners to build
o Vertical Complementary Strategic Alliance
 Formed between firms that agree to use their skills and capabilities in different stages of the value chain to create
value for both firms.
 Outsourcing is one example of this type of alliance.
o Horizontal Complementary Strategic Alliance
 Formed when partners who agree to combine their resources and skills to create value in the same stage of the
value chain.
 Focus is on long-term product development and distribution opportunities.
 Challenge: The partners may become competitors which requires a great deal of trust between the partners.
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(2) Competition response Alliances

o Occur when firms join forces to respond to a strategic action of another competitor.
o Challenge: Because they can be difficult to reverse and expensive to operate, strategic alliances are primarily formed to
respond to strategic rather than tactical actions.
(3) Uncertainty-reducing Alliances
o Are used to hedge against risk and uncertainty.
o These alliances are most noticed in fast-cycle markets
o An alliance may be formed to reduce the uncertainty associated with developing new product or technology standards.
(4) Competition-reducing Alliances
o Created to avoid destructive or excessive competition
o Explicit collusion: when firms directly negotiate production output and pricing agreements to reduce competition (illegal)
o Tacit collusion: when firms indirectly coordinate their production and pricing decisions by observing other firm’s actions
and responses.
 Assessment of Cooperative Strategy

o Complementary business-level strategic alliances, especially the (1) vertical ones, have the greatest probability of
creating a sustainable competitive advantage.
o (1) Horizontal complementary alliances are sometimes difficult to maintain because they are often between rival
competitors.
o Competitive advantages gained from (2) – (4) competition and uncertainty reducing strategies tend to be temporary.
Corporate Level Cooperative Strategy

 Corporate-level Strategies
o Help the firm diversify in terms of:
 Products offered to the market
 The markets it serves
o Require fewer resource commitments.
o Permit greater flexibility in terms of efforts to diversify partners’ operations.
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(1) Diversifying Strategic Alliances

o Firms share some of their resources and capabilities to engage in product and/or geographic diversification
o Allows a firm to expand into new product or market areas without completing a merger or an acquisition.
o Provides some of the potential synergistic benefits of a merger or acquisition, but with less risk and greater levels of
flexibility.
o Permits a “test” of whether a future merger between the partners would benefit both parties.
(2) Synergistic Strategic Alliance
o Firms share some of their resources and capabilities to create joint economies of scope
o Creates synergy across multiple functions or multiple businesses between partner firms
(3) Franchising
o A contractual relationship (franchise) is developed between two parties
 To describe and control the sharing of the franchisor’s resources with the franchisee
o Spreads risks and uses resources, capabilities, and competencies without merging or acquiring another firm.
o An alternative to pursuing growth through mergers and acquisitions.
 Assessing Corporate Level Strategy

o Compared to business-level strategies
 Broader in scope
 More complex
 More costly
o Can lead to competitive advantage and value when:
 Successful alliance experiences are internalized. Decision by BOD and shareholders
 The firm uses such strategies to develop useful knowledge about how to succeed in the future.
International Cooperative Strategy

(1) Cross-border Strategic Alliance
o A strategy in which firms with headquarters in different nations combine their resources and capabilities to create a
o A firm may form cross-border strategic alliances to leverage core competencies that are the foundation of its domestic
success to expand into international markets.
(2) Synergistic Strategic Alliance
o Allows risk sharing by reducing financial investment.
o Host partner knows local market and customs.
o Challenges:
 Difficult to manage due to differences in management styles, cultures or regulatory constraints
 Must gauge partner’s strategic intent such that the partner does not gain access to important technology and
become a competitor.
Network Cooperative Strategy

 Network cooperative Strategy is where several firms agree to form multiple partnerships to achieve shared objectives.
o Stable alliance network
o Dynamic alliance network
 Effective social relationships and interactions among partners are keys to a successful network cooperative strategy.
(1) Stable Alliance Network

o Long term relationships that often appear in mature industries where demand is relatively constant and predictable
o Stable networks are built for exploitation of the economies (scale and/or scope) available between the firms
(2) Dynamic Alliance Network
o Arrangements that evolve in industries with rapid technological change leading to short product life cycles
o Primarily used to stimulate rapid, value-creating product innovation and subsequent successful market entries
o Purpose is often exploration of new ideas
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Competitive Risk of Cooperative Strategy
 Competitive Risk
o Partners may act opportunistically.
o Partners may misrepresent competencies brought to the partnership.
o Partners fail to make committed resources and capabilities available to other partners.
o One partner may make investments that are specific to the alliance while its partner does not.
o Inadequate contracts, holding alliance partner’s specific investments hostage
 Managing Cooperative Strategies

o Cost Minimization Management Approach
 Have formal contracts with partners.
 Specify how strategy is to be monitored.
 Specify how partner behaviour is to be controlled.
 Set goals that minimize costs and to prevent opportunistic behaviour by partners.
o Opportunity Maximization Approach
 Maximize partnership’s value-creation opportunities
 Learn from each other
 Explore additional marketplace possibilities
 Maintain less formal contracts, fewer constraints
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Seminar 9 Strategic Leadership

 Textbook Chapter 12
Strategic Leadership and Style

 Strategic leadership requires the ability to:
o Anticipate and envision.
o Maintain flexibility.
o Empower others to create strategic change through selecting and implementing a firm’s strategies as necessary.
 Strategic Change is brought about as a result of selecting and implementing a firm’s strategies
 Strategic leadership is:
o Multi-functional work involving working through others.
o Consideration of the entire enterprise rather than just a sub-unit. Overview.
o A managerial frame of reference.
 Effective strategic leaders:
o Manage the firm’s operations effectively.
o Sustain a high performance over time.
o Make better decisions than their competitors.
o Make candid, courageous, pragmatic decisions.
o Understand how their decisions affect the internal systems in use by the firm.
o Solicit feedback from peers, superiors and employees about their decisions and visions.
 Most effective leadership style – Transformational leadership
o Motivating followers to exceed the expectations others have of them
o To continuously enrich their capabilities
o To place the interest of the organisation about their own.
o Develop and communicate vision and for the organisation and formulate a strategy to achieve it.
o High degree of integrity
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Role of Top Level Management

 Managers often use their discretion when making strategic decisions and implementing strategies.
 Managerial Discretion
o The degree of latitude for action when making strategic decisions, especially those concerned with effective
implementation of strategies.
o How managers exercise discretion when determining appropriate strategic actions is critical to the firm’s success.
 Factors affecting the amount of decision-making discretion include:
o External environmental sources
 Industry structure
 Rate of market growth
 Number and type of competitors
 Nature and degree of political/legal constraints
 Degree to which products can be differentiated
o Characteristics of the organization
 Size, Age, Culture
 Availability of resources
 Patterns of interaction among employees
o Characteristics of the manager
 Tolerance for ambiguity
 Commitment to the firm and its desired strategic outcomes
 Interpersonal skills
 Aspiration level & Degree of self-confidence
 Top Management Teams, Firm Performance, and Strategic Change

o Heterogeneous top management teams:
 Composed of individuals with different functional backgrounds, experience and education
 Have difficulty functioning effectively as a team.
 Require effective management of the team to facilitate the process of decision making but …
 Are associated positively with innovation and strategic change.
 May force the team or members to “think outside of the box” and be more creative.
 Have greater capacity to provide effective strategic leadership in formulating strategy.
 CEO and Top Management Team Power
o Higher performance is achieved when board of directors are more directly involved in shaping strategic direction.
o A powerful CEO may:
 Appoint sympathetic outside board members.
 Have inside board members who report to the CEO.
 Have significant control over the board’s actions.
 May also hold the position of chairman of the board (CEO duality – conflict of interest).
o Duality often relates to poor performance and slow response to change.
 CEOs of long tenure can also wield substantial power.
 CEOs can gain so much power that they are virtually independent of oversight by the board of directors.
o The most effective forms of governance share power and influence among the CEO and board of directors.
Managerial Succession
 Organizations select managers and strategic leaders from two types of managerial labour markets:
o Internal managerial labour market
 Advancement opportunities related to managerial positions within a firm.
 Advantages of internal managerial labour market include:
 Experience with the firm and industry environment.
 Familiarity with company products, markets, technologies, and operating procedures.
 Lower turnover among existing personnel.
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o External managerial labour market

 Career opportunities for managers in organizations other than the one for which they currently work.
 Advantages of the external managerial labour market include:
 Long-tenured insiders may be “stale in the saddle”—outsiders may bring fresh perspectives.
 Effects of CEO Succession and Top Management Team Composition on Strategy
BOD preference if firm

performing well
BOD preference if firm

performance declining
Key Strategic Leadership Actions
 Determining Strategic Direction

o Determining strategic direction involves developing a long-term vision of the firm’s strategic intent.
 Over time. Five to ten years into the future
 Philosophy with goals
 The image and character the firm seeks
o Ideal long-term vision has two parts:
 Core ideology
 Envisioned future
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 Effectively Managing the Resource Portfolio

o Exploiting and Maintaining Core Competencies
 Core competencies
 Resources and capabilities of a firm that serve as a source of competitive advantage over its rivals.
 Leadership must verify that the firm’s competencies are emphasized in strategy implementation efforts.
 Firms must continuously develop or even change their core competencies to stay ahead of competitors.
o Developing Human Capital and Social Capital
 Human capital
 The knowledge and skills of the firm’s entire workforce are a capital resource that requires investment in
training and development.
 Social capital
 Relationships inside and outside the firm that help it accomplish tasks and create value for customers and SH
 Sustaining an Effective Organizational Culture

o Organizational Culture – The complex set of ideologies, symbols and core values shared through the firm, that influences
the way business is conducted.
o Entrepreneurial Mind-set (Orientation)
 Personal characteristics that encourage or discourage entrepreneurial opportunities.
 Autonomy, Proactiveness, Innovativeness, Risk taking
o Changing a firm’s organizational culture is more difficult than maintaining it.
 Effective strategic leaders recognize when change in culture is needed.
o Shaping and reinforcing culture requires:
 Effective communication
 Problem solving skills
 Selection of the right people
 Effective performance appraisals, Appropriate reward systems
 Emphasizing Ethical Practices

o Effectiveness of processes used to implement the firm’s strategies increases when based on ethical practices.
o Ethical practices create social capital and goodwill for the firm.
o Actions that develop an ethical organizational culture include:
 Establishing and communicating specific goals to describe the firm’s ethical standards.
 Continuously revising and updating the code of conduct.
 Disseminating the code of conduct to all stakeholders to inform them of the firm’s ethical standards and practices.
 Developing and implementing methods and procedures to use in achieving the firm’s ethical standards.
 Creating and using explicit reward systems that recognize acts of courage.
 Creating a work environment in which all people are treated with dignity
 Establishing Balanced Organizational Controls

o Controls – Formal, information-based procedures used by managers to maintain or alter organizational activity patterns
o Controls help strategic leaders to:
 Build credibility, Demonstrate the value of strategies to the firm’s stakeholders
 Promote and support strategic change
o The Balanced Scorecard
 Framework used to verify that firm has established both strategic and financial controls to assess its performance.
 Prevents overemphasis of financial controls at the expense of strategic controls
 Four perspectives of the balanced scorecard
 Financial (CF, ROE, ROA)
 Customer (% of repeat customers, Ability to anticipate customer needs, customer satisfaction)
 Internal business processes (asset utilisation improvements, improvement in employee morale, turnover rates)
 Learning and growth (improvements in innovation ability, increases in employee’s skills, no. of new pdts)
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Seminar 10 Organisational Structure and Controls

o Define organizational controls and discuss the different types of controls
o Identify the various forms of organizational structures
o Match organizational structures with the various business/corporate/international strategies
Organisational Structure & Controls

 Organizational structure specifies:
o The firm’s formal reporting relationships, procedures, controls, and authority and decision-making processes
o The work to be done and how to do it, given the firm’s strategy or strategies
 When a structure’s elements (e.g., reporting relationships, procedures, etc.) are properly aligned with one another, the
structure facilitates effective use of the firm’s strategies.
o It is critical to match organizational structure to the firm’s strategy.
 Effective structures provide:
 Stability & Flexibility
 Structural stability provides:
 The capacity required to consistently and predictably manage daily work routines
 Structural flexibility provides for:
 The opportunity to explore competitive possibilities
 The allocation of resources to activities that shape needed competitive advantages
 Organisational Control
o Purposes of organizational controls:
 Guide the use of strategy.
 Indicate how to compare actual results with expected results.
 Suggest corrective actions to take when the difference between actual and expected results is unacceptable.
o Two types of organizational controls:
 Strategic controls (Subjective criteria)
 Are concerned with examining the fit between:
o What the firm might do (opportunities in its external environment).
o What the firm can do (competitive advantages).
 Evaluate the degree to which the firm focuses on the requirements to implement its strategy.
 Financial controls (Objective Criteria)
 Accounting-based measures include:
o Return on investment
o Return on assets
 Market-based measures include:
o Economic Value Added (EVA)
 Matching Control to Strategy
o Relative use of controls varies by type of strategy:
 Large diversified firms using a cost leadership strategy emphasize financial controls.
 Firms and business units using a differentiation strategy emphasize strategic controls.
Relationship between Strategy and Structure

 Strategy and structure have a reciprocal relationship:
o Structure flows from or follows the selection of the firm’s strategy
o However, once in place, structure can influence current strategic actions as well as choices about future strategies
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Evolution Patterns of Structure and Organisational Structure

 Firms grow in predictable patterns:
o First by volume
o Then by geography
o Then integration (vertical, horizontal)
o And finally through product/business diversification
 A firm’s growth patterns determine its structural form.
 All organizations require some form of organizational structure to implement and manage their strategies
 Firms frequently alter their structure as they grow in size and complexity
Three basic structure types:

 Simple structure
o Owner-manager
 Makes all major decisions directly.
 Monitors all activities.
o Staff
 Serves as an extension of the manager’s supervisor authority.
o Matched with focus strategies and business-level strategies
 Commonly complete by offering a single product line in a single geographic market.
o Growth creates:
 Complexity
 Managerial and structural challenges
o Owner-managers
 Commonly lack organizational skills and experience.
 Become ineffective in managing the specialized and complex tasks involved with multiple organizational functions.
 Functional structure
o Chief Executive Officer (CEO)
 Limited corporate staff
o Functional line managers in dominant organizational areas of:
 Production, Marketing, Engineering, Accounting, R&D, Human resources
o Supports use of business-level strategies and some corporate-level strategies
 Single or dominant business with low levels of diversification
o Differences in orientation among organizational functions can:
 Impede communication and coordination.
 Increase the need for CEO to integrate decisions and actions of business functions.
 Facilitate career paths and professional development in specialized functional areas.
 Cause functional-area managers to focus on local versus overall company strategic issues.
 Multidivisional structure (M-form)
o Strategic Control
 Operating divisions function as separate businesses or profit centres
o Top corporate officer delegates responsibilities to division managers
 For day-to-day operations
 For business-unit strategy
o Appropriate as firm grows through diversification
o Major Benefits
 1.Corporate officers are able to more accurately monitor the performance of each business, which simplifies the
problem of control.
 2.Facilitates comparisons between divisions, which improves the resource allocation process.
 3.Stimulates managers of poorly performing divisions to look for ways of improving performance.
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Matches between Business Level Strategy and Functional Structure

 Different forms of the functional organizational structure are matched to:
o Cost leadership strategy
o Differentiation strategy
o Integrated cost leadership/differentiation strategy
 Differences in these forms are seen in three important structural characteristics:
o Specialization (number and types of jobs)
o Centralization (decision-making authority)
o Formalization (formal rules and work procedures)
 Functional Structure to Implement Cost Leadership Strategy
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 Functional Structure for Implementing Differentiation Strategy
 Functional Structure to Implement Integrated Cost Leadership/Differentiation Strategy

o Selling products that create customer value due to:
 Their relatively low product cost through an emphasis on production and process engineering, with infrequent
product changes.
 Reasonable sources of differentiation based on new-product R&D are emphasized while production and process
engineering are not.
o Used frequently in global economy
Matches between Corporate Level Strategy and Multidivisional Structure

 A firm’s continuing success that leads to:
o Product diversification, and/or
o Market diversification,
 Increasing diversification creates control problems that the functional structure cannot handle.
o Information processing, coordination and Control
 Diversification strategy requires firm to change from functional structure to a multidivisional structure.
o Different levels of diversification create the need for implementation of a unique form of the multidivisional structure
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 Cooperative Form of M-Form Structure to Implement the Related Constrained Strategy

o Horizontal integration is used to bring about interdivisional cooperation.
o Sharing divisional competencies facilitates development of economies of scope.
o To foster divisional cooperation, the corporate office emphasizes centralization:
 Strategic planning
 Human resources
 Marketing
o Characteristics:
 R&D is likely to be centralized
 Frequent, direct contact between division managers encourages and supports cooperation and sharing of
competencies and resources.
 Use of liaison roles
 Rewards are subjective, emphasizing overall corporate performance in addition to divisional performance.
 SBU Form of the M-Form Structure to Implement the Related Linked Strategy
o Strategic business unit (SBU) form is a structure consisting of three levels:
 Corporate headquarters
 Strategic business units (SBUs)
 SBU divisions
o Divisions within SBUs share
 Products, or markets, or both
o Divisions within SBUs develop economies of scope and/or scale by sharing product or market competencies.
 Each SBU is a profit center controlled and evaluated by the headquarters office.
o Used by large firms
 Can be complex due to an organization’s size and diversity in products and markets.
o Characteristics:
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 Competitive Form of the M-Form to Implement Unrelated Diversification Strategy

o A structure in which there is complete independence among the firm’s divisions
 Divisions do not share common corporate strengths.
 Because strengths aren’t shared, integrating devices aren’t developed.
 Organizational arrangements emphasize divisional competition rather than cooperation.
o Three benefits from the internal competition
 Flexibility—corporate headquarters can have divisions working on different technologies to identify those with
greatest future potential.
 Challenges the status quo and inertia.
 Motivates effort.
o Creates specific profit performance expectations for each division to promote internal competition for resources.
o Characteristics
45
Matches between International Strategies and Worldwide Structure

o International strategies allow the firm to search for new:
 Markets, Resources, Core competencies, Technologies
 Worldwide Geographic Area Structure: Implementing a Multidomestic Strategy

o Multidomestic strategy decentralizes strategic and operating decisions to:
 Business units in each country
 Product characteristics tailored to local preferences
o Firms counter global competitive forces by:
 Establishing protected market positions, or
 Competing in industry segments most affected by differences among local countries.
o Worldwide Geographic Area Structure
 Emphasizes national interests
 Facilitates the firm’s efforts to satisfy local or cultural differences
o Multidomestic Strategy
 Requires little coordination between different county markets: integrating mechanisms are not needed.
 Key disadvantage is inability to create global efficiencies.
o Characteristics
 Worldwide Product Divisional Structure: Implementing a Global Strategy

o Global Strategy
 Allows firm to offer standardized products across country markets.
o Effects on Firm
 Success depends on firm’s ability to develop and take advantage of economies of scope and scale on global level.
 Firm tends to outsource some primary or support activities to the world’s best providers.
o Centralizes decision-making authority in the worldwide division headquarters.
 Headquarters coordinates and integrates decisions and actions among divisional business units.
o Integrating mechanisms are important:
 Direct contact between managers
 Liaison roles between departments
 Temporary task forces as well as permanent teams
46
o Characteristics
 Hybrid Form of Combination Structure: Implementing the Transnational Strategy

o Transnational Strategy
 Combines multidomestic strategy’s local responsiveness with global strategy’s efficiency.
o Combination structure draws characteristics and mechanisms from both:
 Worldwide geographic area structure
 Worldwide product divisional structure
o Appropriate integrating mechanisms for the combination structure are less obvious.
47
Matches between Cooperative Strategies and Network Structures

 Network strategy exists when:
o Partners form several alliances in order to improve performance of the alliance network itself through cooperative
endeavours.
 Strategic Network
o A group of firms formed to create value by participating in multiple cooperative arrangements such as alliances and JVs
 Strategic networks are used to implement:
o Business/Corporate/International-level strategies
 Strategic center firm
o The firm around which the network’s cooperative relationships revolve.
o The foundation for the strategic network’s structure
 Concerned with aspects of organizational structure such as formal reporting relationships.
 Manages the complex, cooperative interactions among network partners.
o Centralised decision making authority and responsibility
 Guides participants in effort to form network-specific competitive advantage
o Engages in four primary tasks:
 Strategic outsourcing. Competencies. Technology. Race to learn
 Implementing Business-Level Cooperative Strategies

o Vertical Complementary Alliances
 Firms have complementary competencies in different value chain stages that let them cooperatively integrate
their different skills.
o Horizontal Complementary Alliances
 Firms that agree to combine competencies to create value in the same stage of the value chain.
o The strategic center firm is obvious in vertical alliances, but not always in horizontal alliances.
 Implementing Corporate-Level Cooperative Strategies

o International Franchising
 A common form of cooperative strategy used to facilitate product and market diversification.
 Allows the firm to use its competencies to extend or diversify its product or market reach without completing a
merger or acquisition
 Implementing International Cooperative Strategies

o Strategic Networks
 Are used to implement international cooperative strategies for competing in several countries.
 Differences in countries’ regulatory environments increase the challenge of managing international networks.
o Distributed Strategic Networks
 Are the organizational structure used to manage international cooperative strategies.
 Regional strategic center firms
48
Seminar 11 Corporate Governance

o Define corporate governance
o Explain the principal-agent relationship and agency issues
o Explain how internal and external governance mechanisms mitigate agency problems
 Corporate governance is:

o The set of mechanisms used to manage relationships among stakeholders and to determine and control the strategic
direction and performance of organizations
 Concerned with identifying ways to ensure that strategic decisions are made more effectively.
 Used in corporations to establish harmony between the firm’s owners and its top-level managers whose interests
may be in conflict.
 Aligning the interest and behaviour of different stakeholders
 Shareholders  BOD  Management  Employees
o Public Company
 Limited liability for investors
 Transferability of investor interest, ability to sell rights
 Legal personality
 Separation of ownership and control (managerial)
Separation of Ownership & Control

 Basis of the modern corporation
o Shareholders purchase stock, becoming residual claimants.
o Shareholders reduce risk by holding diversified portfolios.
o Professional managers are contracted to provide decision making.
 Modern public corporation form leads to efficient specialization of tasks:
o Risk bearing by shareholders
o Strategy development and decision making by managers
1. Agency Relationships
+ 
 Agency theory
o Views a firm as a nexus of legal contracts
o Relationships among shareholders, managers, and hierarchies
o Firms need to design work tasks
 Agency Problem
o 1. Adverse selection
 Misrepresentation of a job
 Beyond his/her ability (or willing) to do things
o 2. Moral hazard
 Difficulty to ascertain whether the agent gives his/her best
o Principal and agent have divergent interests and goals
o Shareholders lack direct control of large, publicly traded corporations.
o Agent makes decisions that result in the pursuit of goals that conflict with those of the principal.
 It is difficult or expensive for the principal to verify that the agent has behaved appropriately.
49
 Agency cost
o “the sum of incentive costs, monitoring costs, enforcement costs, and individual financial losses incurred by principals
because it is impossible to use governance mechanisms to guarantee total compliance by the agent.”
 Agent falls prey to managerial opportunism.
o The seeking of self-interest with guile (cunning or deceit)
o Managerial opportunism is:
 An attitude (inclination)
 A set of behaviors (specific acts of self-interest)
o Managerial opportunism prevents the maximization of shareholder wealth (the primary goal of owner/principals).
 Response to managerial opportunism
o Principals do not know beforehand which agents will or will not act opportunistically.
o Thus, principals establish governance and control mechanisms to prevent managerial opportunism.
2. Product Diversification (e.g. of Agency Problem)

 The Problem of Product Diversification
o Opportunity for top-level managers to increase their compensation
 Product diversification increases the size of the firm and is positively related to executive compensation
 Increases the complexity of managing a firm and its network of business
o Reduction of managerial employment risk
 The firm (and the manager) is less affected by a reduction in demand for (or failure of) a single product line when
the firm produces and sells multiple products.
 CEOs might be able to stabilize corporate earnings and subsequently reduce their unemployment risk
o Use of Free Cash Flows (i.e. Slack resources)
 Managers prefer to invest these funds in additional product diversification (see above).
 Shareholders prefer the funds as dividends so they control how the funds are invested.
 Product diversification (management’s responsibility) vs financial diversification (shareholder responsibility)
o Hedging across businesses. However, no synergies.
o Shareholder’s interest is skewed towards achieving business synergies to maximise revenue.
 They have no interest in maintaining constant revenue stream as they can diversify across various firms by buying
shares of other firms
o What is the optimal level of diversification?
3. Agency Costs and Governance Mechanisms

 Agency Costs
o The sum of incentive costs, monitoring costs, enforcement costs, and individual financial losses incurred by principals,
o Because governance mechanisms cannot guarantee total compliance by the agent.
 Principals may engage in monitoring behaviour to assess the activities and decisions of managers.
o However, dispersed shareholding makes it difficult and inefficient to monitor management’s behaviour.
 Boards of directors have a fiduciary duty to shareholders to monitor management.
o However, boards of directors are often accused of being lax in performing this function.
50
Internal Governance Mechanism

1. Ownership Concentration
o Relative amounts of stock owned by individual shareholders and institutional investors
 Large block shareholders (5% of company’s issued shares) have a strong incentive to monitor management closely:
o Their large stakes make it worth their while to spend time, effort and expense to monitor closely.
o They may also obtain board seats which enhances their ability to monitor effectively.
 Financial institutions are legally forbidden from directly holding board seats
 The increasing influence of institutional owners (stock mutual funds and pension funds)
o Have the size (proxy voting power) and incentive (demand for returns to funds) to discipline ineffective top-level
managers.
o Can affect the firm’s choice of strategies.
 Shareholder activism:
o Shareholders can convene to discuss corporation’s direction.
o If a consensus exists, shareholders can vote as a block to elect their candidates to the board.
o Proxy fights.
o There are limits on shareholder activism available to institutional owners in responding to activists’ tactics
2. Board of Directors
o Individuals responsible for representing the firm’s owners by monitoring top-level managers’ strategic decisions
 Board has the power to:
o Direct the affairs of the organization
o Punish and reward managers
o Protect owners from managerial opportunism
 Composition of Boards:
o Insiders: the firm’s CEO and other top-level managers
o Related Outsiders: individuals uninvolved with day-to-day operations, but who have a relationship with the firm
o Outsiders: individuals who are independent of the firm’s day-to-day operations and other relationships
 Criticisms of Boards of Directors include:
o Too readily approve managers’ self-serving initiatives
o Are exploited by managers with personal ties to board members
o Are not vigilant enough in hiring and monitoring CEO behavior
o Lack of agreement about the number of and most appropriate role of outside directors.
 Enhancing the effectiveness of boards and directors:
o More diversity in the backgrounds of board members
o Stronger internal management and accounting control systems
o More formal processes to evaluate the board’s performance
o Adopting a “lead director” role.
 Strong power with regard to board agenda and oversight of non-management board member activities
o Changes in compensation of directors.
 Reducing or eliminating ESO
3. Executive Compensation
o The use of salary, bonuses, and long-term incentives to align managers’ interests with shareholders’ interests.
 Forms of compensation:
o Salaries, bonuses, long-term performance incentives, stock awards, stock options
 Factors complicating executive compensation:
o Strategic decisions by top-level managers are complex, non-routine and affect the firm over an extended period.
o Other variables affecting the firm’s performance over time.
 Limits on the effectiveness of executive compensation:
o Unintended consequences of stock options
o Firm performance not as important than firm size
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o Balance sheet not showing executive wealth

o Options not expensed at the time they are awarded
External Governance Mechanism

Market for Corporate Control
o The purchase of a firm that is underperforming relative to industry rivals in order to improve its strategic
competitiveness.
 Individuals and firms buy or take over undervalued firms.
o Ineffective managers are usually replaced in such takeovers.
 Threat of takeover may lead firm to operate more efficiently.
o Changes in regulations have made hostile takeovers difficult.
 Market for corporate control lacks the precision of internal governance mechanisms.
 Managerial defence tactics increase the costs of mounting a takeover
International Corporate Governance

 Organizations worldwide are adopting a relatively uniform governance structure.
o Boards of directors are becoming smaller, with more independent and outside members.
o Investors are becoming more active.
o In rapidly developing market economies, minority shareholder rights are not protected by adequate governance controls.
Governance Mechanism & Ethical Behaviour

 Effective governance mechanism ensures that interest of all stakeholders are served
 Capital Market Stakeholders
o Shareholders (in the capital market stakeholder group) are viewed as the most important stakeholder group.
o The focus of governance mechanisms is on the control of managerial decisions to assure shareholder interests
o Interests of shareholders is served by BOD
 Product Market Stakeholders
o Product market stakeholders (customers, suppliers and host communities) and organizational stakeholders may withdraw
their support of the firm if their needs are not met, at least minimally.
 Organisational Stakeholders
o Ethically responsible companies design and use governance mechanisms that serve all stakeholders’ interests.
o Importance of maintaining ethical behaviour is seen in the examples of Enron, WorldCom, HealthSouth and Tyco.
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AB3601 Strategic Management

Seminar 1 - Introduction to Strategic Management

I/O Model of Above-Average Returns [External Environment Analysis]

Resource-Based Model of Above-Average Returns [Internal Environment Analysis]

 I/O Model Resource Based Model

Vision & Mission

 Capital Market Stakeholders

Seminar 2 External Environment Analysis

 Identifies Opportunities & Threats

General Environment Analysis – PESTEL

Industry Environment Analysis – Porter’s 5 Forces

 Licensing and permit requirements

Attractive Industry – High Profit Potential

Industry Environment Analysis – Strategic Groups

Seminar 3 Internal Environment Analysis

Analysing the Internal Organisation

o Superior value  Above-average returns

Building Core Competencies – VRIN

 Competitive consequences (VRIN Analysis)

 Value Chain Analysis

 purchase of a value-creating activity from an external supplier

Competencies, Strengths, Weaknesses & Strategic Decisions

Seminar 4 Business Level Strategy

Customers & Business Level Strategy

Types of Business Strategies – Porter’s Three Generic Business Strategies

Cost Leadership Strategy

 Cost Saving Actions

 Porter’s Five Forces

Examples of Value Adding Activities associated with Cost Leadership Strategy

 Actions to achieve Differentiation

 Porter’s Five Forces

Integrated Cost Leadership/Differentiation Strategy

Seminar 5 Corporate Strategy

 Reasons for Diversification

 Economies of scope (related diversification)  Antitrust regulation  Diversifying managerial

Value Creating Diversification - Related Constrained & Related Linked Diversification

Vertical Integration Rare capability that creates

Financial Diseconomies Economies of Scope

(1) Related Constrained Diversification

(3) Simultaneous Operational Relatedness and Corporate Relatedness

 Efficient Internal Capital Market Allocation

Seminar 6 International Strategy

 Traditional Economic Model

International Business Level Strategy

International Corporate-Level Strategy

Types of International Corporate-Level Strategy

Multidomestic Strategy Global Strategy Transnational Strategy

International Mode of Entry

Firm has no foreign

The firm needs rapid cross-

Risks & Challenges in International Environment

Strategic Competitiveness Outcomes

Seminar 7 Merger & Acquisition

Reasons for Acquisitions

 Market power is increased by:

(3) Cost of New Product Development and Increased Speed to Market

Seminar 8 Cooperative Strategy

 Types of Strategic Alliances