Michael Porter and Strategy

Michael Porter and Strategy ManEc 300 Prof. Bryson

Michael E. Porter’s New Approach Who is Michael Porter?

Michael E. Porter’s New Approach • Harvard Business School • 1980: The Five Competitive Forces • The Competitive Advantage of Nations, 1990. • Probably the first “strategist” in a new field that is, basically, straight economics • Enormous popularity

The Five Competitive Forces • How many can we remember? • There were two threats, two bargaining powers, and some jockeying.

The Five Competitive Forces • the threat of new entrants, • the bargaining power of customers, • the bargaining power of suppliers, • the threat of substitute products or services, and • the jockeying among current contestants.

Porter and Strategy Today • Strategy has now become a regular field in management schools. It is mostly a haven for economists. • Brickley, Smith and Zimmerman devote Chapter 8 to the “Economics of Strategy: Creating and Capturing Value.” • In their approach, what is “Value Creation”?

Porter and Strategy Today • Value Creation is finding an approach, a cost-reduction technique, or some manner permitting the firm to compete effectively.

Establishing a Strategic Agenda • What must a firm be able to do before it can establish a strategic agenda for dealing with the five competitive forces?

Establishing a Strategic Agenda • To establish a strategic agenda for dealing with these forces and to grow despite them, a company must understand how they work in it’s own industry and particular situation. • What makes them vary? • The essence of strategy formulation is coping with the specific kinds of competition experienced.

Establishing a Strategic Agenda . Different forces take on prominence, of course, in shaping competition in each industry. • Every industry has an underlying structure, or a set of fundamental economic and technical characteristics, whether an industry is dealing in services or selling products.

Establishing a Strategic Agenda • In Brickley, Smith, and Zimmerman, strategy and _________ (what else) are the key determinants of a firm’s success?

Establishing a Strategic Agenda • In Brickley, Smith, and Zimmerman strategy and organizational architecture are seen as the key determinants of the success of a firm. • What has entry got to do with strategy? • Why should it be avoided?

Threat of Entry • New entrants to an industry bring new capacity (the ability to push down the industry price as the industry S shifts out to the right), the desire to gain market share, and often substantial resources. S1 S2 P1 P2

Threat of Entry • So it is very strategic to try to inhibit entry if possible. • Can you think of the six major barriers to entry? • Did you ever do a scripture chase?

Barriers to Entry • Economies of scale - - These economies deter entry by forcing the aspirant either to come in on a large scale or to accept a cost disadvantage. • Product differentiation -- Brand identification creates a barrier by forcing entrants to spend heavily on marketing

Barriers to Entry • Cost disadvantages independent of size -- Entrenched companies may have cost advantages not available to potential rivals, no matter what their size and attainable economies of scale.

Barriers to Entry • Access to distribution channels -- The newcomer must, of course, secure distribution of its product or service. • Government policy -- Governments can limit or even foreclose entry to industries with such controls as license requirements and limits on access to raw materials.

Barriers to Entry, BSZ BSZ tell us that without barriers to entry, new firms tend to erode profits within the industry. They discuss the “degree of rivalry,” the threat of substitutes, buyer and supplier power, and market power and strategy. See pp. 202ff.

Powerful Suppliers and Buyers • What determines the power of each important supplier or buyer group a strategic firm must work with?

Powerful Suppliers and Buyers • That power depends on the characteristics of the supplier’s or buyer’s market situation and • on the relative importance of its sales or purchases to the industry compared with its overall business.

Powerful Suppliers and Buyers • A company's choice of suppliers to buy from or buyer groups to sell to should be viewed as a crucial strategic decision. • This is especially true of a company that is able to choose whom it will sell to. In other words, “buyer selection” is often a strategic concern for a company.

Substitute Products • Substitute products place a ceiling on prices a competing firm can charge, limiting the potential of an industry. • Substitutes not only limit profits in normal times; they also reduce the bonanza an industry can reap in boom times.

Substitute Products • Substitutes often come rapidly into play if some development increases competition in their industries and causes price reduction or performance improvement.

Jockeying for Position What factors determine the intensity of competitive rivalries? • The first important issue is whether competitors are numerous. Also, are they roughly equal in size and power?

Jockeying for Position Is jockeying especially intense when industry growth is fast? No, when industry growth is slow, fights are precipitated in the struggle for market share among expansion-minded competitors.

Jockeying for Position Will the jockeying be intense when the product or service is not differentiated or when switching costs are high? Not especially! Such costs lock in buyers and protect one combatant from raids on its customers by another.

Jockeying for Position • When fixed costs are high or the product is perishable, there is strong temptation to cut prices.

Formulation of Strategy 1. Positioning the company so that its capabilities provide the best defense against the competitive force.

Formulation of Strategy 2. Influencing the balance of the forces through strategic moves, thereby improving the company's position.

Formulation of Strategy • 3.Exploiting industry change Anticipating shifts in the factors underlying the forces and responding to them, with the hope of exploiting change by choosing a strategy appropriate for the new competitive balance before opponents recognize it.

Formulation of Strategy • 4. Recognizing Multifaceted Rivalry Porter and numerous other authorities have stressed the need to look beyond product to function in defining a business, beyond national boundaries to potential international competition, and beyond the ranks of one's competitors tomorrow.

Formulation of Strategy • BSZ remind us (pp.217-220) that to formulate strategy we must • understand our resources and capabilities • understand the environment, and • combine knowledge of strategy and organizational architecture.

Conclusions • The key to growth -- even survival -- is to stake out a position that is • less vulnerable to attack from head-to-head opponents, whether established or new, and • less vulnerable to erosion from the direction of buyers, suppliers, and substitute goods.

Conclusions • Establishing such a position can take many forms • solidifying relationships with favorable customers, • differentiating the product either substantively or psychologically through marketing, integrating forward or backward, or • establishing technological leadership.

Michael Porter and Strategy