De-mystifying Strategy

1. De-mystifying Strategy Prof Anadi S Pande Associate Professor Strategic Management Group

2. Strategy Content and Process What is Strategy?What is the Strategic Purpose of Business Enterprises?What is Organizational Performance and its Measures?What is Competitive Advantage and its forms?What is Value and Added Value (Scarcity Value)?What determines firm performance? Strategic Analysis!What are the Strategic Management Processes?

3. PROCESS AND CONTENT OF STRATEGY What is the purpose of a business firm? The strategic purpose of a firm is to create value that meets the need of its stakeholders. Who are the stakeholders? All parties that have an interest (or a stake) in the success or performance of the firm are its stakeholders. All the parties that stand to benefit from a firm’s successful operation, including owners, suppliers, customers, employees, local communities, trade associations, and society at large.

4. STAKEHOLDERS AND THE VALUE SOUGHT BY THEM

5. MORE THAN PROFITS WE ARE IN THE BUSINESS OF PRESERVING AND IMPROVING HUMAN LIFE. ALL OUR ACTIONS MUST BE MEASURED BY OUR SUCCESS IN ACHIEVING THIS GOAL Merck & Company, Internal Management Guide I HOLD THAT IT IS BETTER TO SELL A LARGE NUMBER OF CARS AT A REASONABLE PROFIT….I HOLD THIS BECAUSE IT ENABLES A LARGE NUMBER OF PEOPLE TO BUY AND ENJOY THE USE OF A CAR AND BECAUSE IT GIVES A LARGE NUMBER OF MEN EMPLOYMENT AT GOOD WAGES. THOSE ARE THE TWO AIMS I HAVE IN LIFE. Henry Ford, 1916 PUTTING PROFITS AFTER PEOPLE AND PRODUCTS WAS MAGICAL AT FORD. Don Peterson, Former CEO, Ford, 1994 I THINK MANY PEOPLE ASSUME, WRONGLY, THAT A COMPANY EXISTS SIMPLY TO MAKE MONEY. WHILE THIS IS AN IMPORTANT RESULT OF A COMPANY’S EXISTENCE, WE HAVE TO GO DEEPER AND FIND THE REAL REASON FOR OUR BEING. ….WE PROVIDE SOMETHING THAT IS UNIQUE ( THAT MAKES A CONTRIBUTION (TO SOCIETY )). David Packard, HP

6. CORPORATE SOCIAL RESPONSIBILITY • The concept implies that when companies evaluate decisions from an ethical perspective, there should be a presumption in favour of adopting courses of action that enhance the welfare of society at large. Welfare of communities in which a company is based, improve the environment, empower employees to give them a sense of self worth. • Rationale: • It is the right way for the company to behave • Socially responsible behaviour is in company’s self interest.

7. FISCAL RESPONSIBILITY: A PREREQUISITE TO SOCIAL RESPONSIBILITY • THE THREE REASONS: • In legal terms, the management of a firm has fiduciary responsibility towards the stockholders, whose funds they hold in trust, and by so doing, they accept the legally enforceable obligation to manage those investments responsibly and in the best interest of the stockholders. • Organisations need cash to fulfill the social obligations. • Good firms do not think in “Either or” terminology. They do both. They embrace the “Glory of AND” and reject the “Tyranny of OR”

8. INSIGHT: An organization is an association of productive assets (including individuals) which have come together voluntarily to obtain economic benefits. Owners of these assets would make available these assets to the organization only if they are satisfied with the income they receive – in particular the income they receive is atleast as large as the income they could expect from any reasonable alternative. CRITERIA: Therefore the organizational performance can be defined by comparing the value that an organization creates using its productive assets with the value that the owners of the assets expect to obtain. What is Organizational Performance?

9. What is Organizational Performance? contd RELATIONSHIP BETWEEN EXPECTED VALUE OF FIRM RESOURCES, THE ACTUAL VALUE GENERATED AND FIRM PERFORMANCE

10. MEASURES OF FIRM PERFORMANCE CAPITAL MARKETS D E I COE F R PRODUCT MARKETS FACTOR MARKETS FIRM C P ADJUSTED ACCOUNTING MEASURE OF FIRM PERFORMANCE EVA = NOPAT – CoC = Economic Profit

11. VALUE BASED MANAGEMENT : EVA & MVA Economic Value Added (EVA) is the difference between the firms’ Return on Investment and the Weighted Average Cost of Capital, multiplied by the amount of capital invested. EVA = NOPAT - WEIGHTED AVERAGE COST OF CAPITAL NOPAT = NPAT + INTEREST - TAX SHIELD DUE TO INTEREST MVA = MARKET VALUE OF THE FIRM - CAPITAL TIED UP IN THE FIRM EVA = WEALTH CREATED Can be used as a system of Performance Evaluation. Companies such as Coca Cola and GM have linked Executive Compensation to EVA. The success of such companies is attributable to the 4 Ms.

12. EVA AS A MEANS OF PERFORMANCE APPRAISAL : THE 4 Ms • Measurement : EVA provides the most meaningful measure for performance of a firm because it includes all costs including the cost of capital for doing business. It therefore becomes an excellent method to evaluate whether wealth is being created for the shareholders or they are being impoverished. • Motivation : Because EVA is so closely linked to a firm’s ability to create wealth for the shareholders, by linking executive compensation to EVA or growth in EVA, managers are motivated to think more as business persons. • Management System : The EVA concept can be applied to virtually any organisational decision. It could be acquisition of a company or investment in a new project or a replacement of an old asset. It therefore can become a unifying system for managing an organisation. • Mindset : The unifying system comes about as a result of developing a common mindset for managerial decision making. The financial impact of any strategic decision can be determined at all organisation levels.

13. COMPETITIVE ADVANTAGE: FOCAL POINT OF STRATEGY Over the long run, the total amount of value a firm captures for its investors (in the form of EVA, cannot exceed the amount of value it creates for its customers (in the form of competitive advantage) Competitive Advantage can be defined as the ability of a firm to outperform its industry, that is, to earn higher rates of profits than the industry norm. And for a firm to achieve a competitive advantage, it must create more value for its customers than its competition. In the simplest terms, such a competitive advantage is based on excelling in providing one or more of three forms of customer value. Customers want goods and services which are i) better, ii) cheaper and iii) faster. These corresponding forms of competitive advantage are referred as 1) Differentiation, 2) Cost Leadership and 3) Quick response.

14. COMPETITIVE ADVANTAGE: FOCAL POINT OF STRATEGY Competitiveness Financial Performance Differentiation Competitive Advantage Economic Value Added Market Value Added Cost Leadership Quick Response Value Created for Customers Value Captured for Investors

15. Economies of Scale Costs Rs. X Volume of Production (Units)

16. Volume of Production and Specialized Machines Volume of Production and Cost of Plant and Equipment Volume of Production and Employee Specialization Volume of Production and Overhead costs Size Differences and Economies of Scale

17. LOW COST LEADERSHIP Learning Effects: As workers and management do the same task repeatedly, they learn the work and their productivity goes up as individuals learn how too perform the task in more efficient way, thereby lowering the unit cost. These effects tend to be more significant in situations where the task is more complex. Learning effects die out after a limited period of time. Experience Curve: Both the economies of scale and learning effects lie behind this concept. As the accumulated production goes up, the manufacturing costs for a product typically decline by some characteristic amount. Unit Cost Accumulated Output

18. LOW COST LEADERSHIP • Reasons for avoiding Complacence in pursuing Competitive Advantage through Experience Curve: • The curve bottoms out at some point. Moreover, in time other companies can catch up with the cost leader. • Technological Innovations can suddenly destroy all advantages. • Not all Manufacturing processes give cost advantage with volumes. The case of mini-mills having different MES with Integrated steel plants.

19. DETAILS OF THE THREE FORMS OF COMPETITIVE ADVANTAGE • A) Differentiation: Attempts to create unique bundles of products and/or services which would be highly valued by customers who would therefore be willing to pay higher prices. Some attributes are enlisted below: • Product Features: PIP developed by Philips in TVs. • After Sales Service: After sales service of Maruti is a big pull for customers. • Desirable Image: Tanishka Jewelry. • Technological Innovation: Sony’s Walkman. Kodak’s Instant Film. • Reputation: Tata Brand Name which inspires trust. • Manufacturing Consistency: Siemens Mobile Phones. • Status Symbol: Mercedes Car. • Understand what the customer wants, uniquely provide that value and extract premium price for the same.

20. B) Cost Leadership: Establish a low cost position with respect to the competitors. • Economies of Scale • Learning Curve Effects • Typically a firm pursuing low cost leadership strategy would spend less on R&D, more on making production easier and cheaper. • C) Quick Response: This refers to responding quickly to product improvements, new product developments, quickly delivering to customers the product that they desire. Inherent here is the concept of flexibility.Slow response to customers can make them choose alternate products. • Refer to the study of Mckinsey where they established that a high tech products that reach the market 6 months behind schedule, however within their budgets, will earn 33 % less profits over next 5 years than what they would have earned otherwise on scheduled launch.

21. TIME – A FORM OF COMPETITIVE ADVANTAGE

22. CREATING COMPETITIVE ADVANTAGE • Willingness to Pay : A customer’s willingness to pay is the maximum amount of money that a customer would be willing to part with, in order to obtain the product or services • Opportunity Cost of Suppliers : It is the smallest amount that a supplier would accept to for the services and resources required to produce a good or service. It is called “opportunity cost” because it is dictated by the best opportunities that the suppliers have to sell their resources elsewhere. Division of Value Supplier Opp. Cost Willingness to Pay Price ? Cost Crane Supplier Share Buyer Share Rs. 75 L Rs. 20 L Rs. 25 L Supplier Share

23. Concept of Added Value Added Value with Crane Supplier and Competitor Providing Crane Willingness to Pay for Competitor’s Crane = Rs. 75 L SOC of Crane Supplier = Rs 20 L Crane Supplier’s added Value = 0.0 L (Total Value Created = Rs. 55 L) (Total Value Created = Rs. 55 L) SOC of Competitor = Rs 20 L Willingness to Pay for Competitor’s Crane = Rs. 75 L WTP for Supplier’s Crane = Rs.90 L SOC of Crane Supplier = Rs 30 L Crane Supplier’s added Value = 5.0 L (Total Value Created = Rs. 60 L) (Total Value Created = Rs. 55 L) Willingness to Pay for Competitor’s Crane = Rs. 75 L SOC of Competitor = Rs 20 L

24. ADDED VALUE AND LINK TO COMPETITIVE ADVANTAGE • A firm’s added value determines how much value it can capture. Added value can be defined as the maximal value created by participants in a transaction minus the value that would have been created without the firm. • The notion of added value establishes that the firm has to be unique in some way failing which it will never be able to earn above average profits implying absence of any competitive advantage. In short Competitive advantage derives from scarcity. • A firm can derive competitive advantage bydevising a way to • raise willingness to pay a great deal with only marginal increase in costs. • Reap large cost savings with only slight decrease in customers willingness to pay. • The first is called differentiation and the latter cost leadership.

25. TYPES OF COMPETITIVE ADVANTAGE Rs Industry Average Competitor Successful Differentiated Competitor Competitor with Dual Advantage Successful Low-Cost Competitor Willingness to Pay Supplier Opportunity Cost

26. DETERMINANTS OF COMPANY PERFORMANCE Company Resources, Capabilities & Strategies Industry Context National Context Company Performance

27. INDUSTRY CONTEXT

28. CONTEXT OF COMPANY RESOURCES & STRATEGIES

29. CONTEXT OF COMPANY RESOURCES & STRATEGIES

30. COMPETITIVE ADVANTAGE OF NATIONS PORTER’S DIAMOND FIRM STRATEGY STRUCTURE & RIVALRY FACTOR CONDITIONS DEMAND CONDITIONS SUPPORTING INDUSTRIES

31. COMPETITIVE ADVANTAGE OF NATIONS • Demand Conditions: Discriminating, Knowledgeable and Demanding home market Customer. • Firm Rivalry: There must be a number of firms competing fiercely to satisfy the demand • Factor Conditions: Here distinguish between the basic factors such as natural resources, cheap labour and Advanced Factors such as specialized skills, research institutes, modern data communications, infrastructure. • Supporting Industries: A rising industry tends to lift up all the supporting industries as well. Presence of supplier industry of international caliber. • Porter says that all these factors must be present to drive innovation which is the source of competitive advantage.

32. ARCHITECTURE OF STRATEGY FINANCIAL PERFORMANCE • EVA • Profitability • Growth • Financial Risk COMPETITIVE ADVANTAGE • Differentiation • Low Cost • Quick Response STRUCTURAL POSITION PROCESS EXECUTION • Rivalry • Entrants • Substitutes • Customers • Suppliers • Product Development • Demand Management • Order Fulfillment ENTERPRISE SYNERGIES • Core Competencies • Market Power • Shared Infrastructure • Balanced Cash Flow • Transnational Advantage ORGANISATIONAL CAPACITY • Leadership • Learning • Levers

33. Summary of Managerial Practices to Adopt * Always remember that the most fundamental purpose of any firm is to provide value for its stakeholders. * Define stakeholders broadly to include any group that has an interest in the success of the business * Remember that a firm must address both its fiscal responsibilities to stockholders and its social responsibilities to its other stake-holder groups. * Do not fall into the trap of believing that a firm can meet the needs of one stakeholder group only at the expense of other stakeholders.Specifically, you should view meeting stockholders’ needs as a prerequisite to meeting the needs of other stakeholder groups and you should look for opportunities whereby meeting the needs of one group supports your efforts to meet the needs of other groups.

34. Summary of Managerial Practices to Adopt * Do not be sidetracked by the technicalities involved in EVA. The underlying concept of producing cash flows greater than the weig- hted average cost of the capital employed is a simple but powerful idea that guides a wide variety of strategic decisions. * Remember that managers should not focus on EVA measures any more than a coach should focus on the scoreboard. Instead, focus on the factors that influence a firm’s ability to produce economic value. Chief among these is competitive advantage. * Remember that, in the long run, a business continues to be success ful only if it sustains a competitive advantage over its competitors The three forms of competitive advantage are differentiation, cost leadership, and quick response.

35. * Look for opportunities to combine different forms of competitive advantage. Firms that simultaneously maintain more than one competitive advantage typically enjoy even grater measures of success. * Internalize a framework, such as the Architecture of Strategy, that allows you to see the interrelations among the broad set of factor that affect a firm’s ability to achieve and maintain a competitive advantage. * Refer back to this framework in performing strategic analysis as well as when formulating or implementing strategies. Developing “fluency” in moving back and forth and across this framework is a key skill for a successful strategic manager.

36. “Whoever is the first in the field and awaits the coming of the enemy will be fresh for the fight:whoever is second in the field and has to hasten to battle will arrive exhausted”.(Sun Tzu) “Wining 100 victories in 100 battles is not the highest virtue;winning without a battle at all is the highest virtue”. (Sun Tzu) “Where is the battlefield? It is in the mind of the customer”.(Ries & Trout) STRATEGY

37. FORMS OF STRATEGY Deliberate Strategy Intended Strategy Realized Strategy Emergent Strategy Unrealized Strategy

38. PERSPECTIVES ON STRATEGIC MANAGEMENT PROCESS • A) Rational Planning Perspective: Rational Planning or Formal Planning is a process for logical approaching the task of identifying the ends an organisation pursues and the means by which those ends can be reached. • Strategic Intent • Strategic Programming

39. HIERARCHY OF STRATEGIC INTENT Most Integrative Fewest in Number Vision Mission Goals Objectives Most Specific Most in Number Plans

40. KEY ELEMENTS OF A MISSION STATEMENT • OBLIGATION TO STOCKHOLDER. The most important stakeholder and the relative emphasis placed on meeting the needs of various stakeholder groups • SCOPE OF BUSINESS. The areas in which the company will compete defined by the customers served, the functions provided, and the technology employed. • SOURCES OF COMPETITIVE ADVANTAGE. The skills that the company will leverage to achieve its vision; a description of how the company expects to succeed in creating customer value and competitive advantage. • VIEW OF THE FUTURE. The anticipated regulatory, competitive, and economic environment in which the company must compete.

41. STRATEGIC PROGRAMMING Identification of Mission Derivation of Objectives Strategy Formulation Identification of Alternative Strategies Feedback Evaluation of Alternatives Selection of Preferred Alternative Creation of Master Plan Establish Master Budget Evaluation of Results Creation of Medium Run Plan Establish Operating Budget Strategy Implementation Creation of Short Term Plan Establish Tactical Budget

42. PERSPECTIVES ON STRATEGIC MANAGEMENT RATIONAL PLANNING ORGANISATIONAL LEARNING

43. COMPARISION OF MECHANISTIC AND ORGANIC ORGANISATIONS

44. A TYPICAL FORMAL STRATEGIC PLANNING PROCESS 1. Evaluate performance and identify gap. 2. Relate gaps to environmental conditions. 3. Relate gaps to organisational conditions. 4. Identify future goals given understanding of gaps. 5. Describe action plans for meeting the goals. 6. Identify resources for each function to fill gap Understanding & Adjusting the gaps Identifying resources to close the gap Distributing Resources Monitoring Progress Corporate 12 8 1 4 Business 9 11 2 5 7 Operations 10 3 6 7. Aggregate functional needs at business level. 8. Allocate resources across multiple Bus. 9. Reallocate resources across multiple functions 10. Deploy resources within functions. 11. Monitor resources within functions. 12. Monitor use of resources within businesses.

45. LIMITATIONS & STRENGTHS OF STRATEGIC PROGRAMMING Limitations “ Strategic programming makes sense when the world is expected to hold still or change predictably while the intended strategies unfold, so that formulation can logically precede implementation.” Henry Mintzberg • Required Conditions: • Stability • Simplicity • Industry Maturity • Capital Intensity • Tightly Coupled Operations • Powerful External Controls • Strengths • Requires cooperation among managers working at Corporate, Business and Operations Level. • It becomes and Integrating and Communicating Mechanism • It is also a control mechanism

46. FALLACIES OF RATIONAL PLANNING • FALLACY OF PREDETERMINATION • FALLACY OF DETACHMENT • FALLACY OF FORMALISATION

47. Hard information is often limited in scope, lacking richness and failing to encompass important non-economic and non-quantitative factors. Much hard information arrives too late to be of use in strategy making. Finally a surprising amount of hard information is unreliable. Henry Mintzeberg in “Rise and Fall of Rational Planning” FALLACY OF FORMALISATION

48. Intended Strategy Mission and Goals Strategic Choice External Analysis Internal Analysis Intended Strategy Organisation for Implementation

49. Emergent Strategy Mission and Goals External Analysis Internal Analysis Strategic Choice. Does it Fit? Emergent Strategy OrganisationalGrassroots

50. THIRD PERSPECTIVE ON STRATEGIC MANAGEMENT PROCESS B) Organisational Learning Perspective: “ Few if any strategies can bepurely deliberate, and few can be purely emergent. The former suggests no learning, the later, no control. The real world strategies need to combine these two.” Move from Mechanistic Organisation to Organic Organisation. Dynamism Organisational Learning Strategic Programming Stable Simple Complexity