Michael Porter and Strategy

Michael Porter and Strategy ManEc 300 Prof. Bryson

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

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.” • They address Value Creation, which is finding an approach, a cost-reduction technique, or some manner permitting the firm to compete effectively.

Establishing a Strategic Agenda • To establish a strategic agenda for dealing with these contending currents and to grow despite them, a company must understand how they work in it’s own industry and particular situation. • The essence of strategy formulation is coping with competition.

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 • Brickley, Smith, and Zimmerman combine strategy and organizational architecture as the key determinants of the success of a firm.

Threat of Entry • New entrants to an industry bring new capacity, the desire to gain market share, and often substantial resources. • There are six major sources of barriers to entry:

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. 187ff.

Powerful Suppliers and Buyers • The power of each important supplier or buyer group depends on a number of characteristics of its 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. Most common is the situation of a company being able to choose whom it will sell to, in other words, buyer selection.

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 Intense rivalry is related to the presence of a number of factors: • Competitors are numerous or are roughly equal in size and power.

Jockeying for Position Industry growth is slow, precipitating fights for market share that involve expansion-minded members.

Jockeying for Position The product or service lacks differentiation or switching costs, which lock in buyers and protect one combatant from raids on its customers, by another.

Jockeying for Position • Fixed costs are high or the product is perishable, creating strong temptation to cut prices. • Capacity is normally augmented in large increments.

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

Formulation of Strategy 2. Influencing the balance 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.203-208) 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