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2 b Strategies, policies, and planning premises
Strategies
The term 'Strategy' has been adapted from war and is being increasingly used in business toreflect broad overall objectives and policies of an enterprise
Edmund P Learned has defined strategies as "the pattern of objectives, purposes or goalsand major policies and plans for achieving these goals, stated in such a way as to define
what business the company is in or is to be and the kind of company it is or is to be".
According to Koontz and O' Donnell , "Strategies must often denote a general programme of action
and deployment of emphasis and resources to attain comprehensive objectives".
Strategy is the determination of the mission (or the fundamental purpose) and the basiclong-term objectives of an enterprise, and the adoption of courses of action and allocation
of resources necessary to achieve these aims
Policies are general statements or understandings that guide managers' thinking in decisionmaking
The Strategic Planning Process
1. Inputs to the organization2. Industry Analysis3.
Enterprise Profile
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4. Orientation, Values, and Vision5. Mission (Purpose), Major Objectives, and Strategic Intent6. Present and Future External Environment7. Internal Environment8. Development of Alternative Strategies9. Evaluation and Choice of Strategies10.Medium- and Short-Range Planning11. Implementation through Reengineering, Staffing, Leadership, and Control12.Consistency Testing and Contingency Planning
Characteristics of Strategy
(1) It is the right combination of different factors.
(2) It relates the business organisation to the environment.
(3) It is an action to meet a particular challenge, to solve particular problems or to
attain desired objectives.
(4) Strategy is a means to an end and not an end in itself.
(5) It is formulated at the top management level.
(6) It involves assumption of certain calculated risks.
Business Strategy
Seymour Tiles offers six criteria for evaluating an appropriate strategy.
1. Internal consistency: The strategy of an organisation must be consistent with its otherstrategies, goals, policies and plans.
2. Consistency with the environment: The strategy must be consistent with the externalenvironment. The strategy selected should enhance the confidence and capability of the
enterprise to manage and adapt with or give command over the environmental forces.
3. Realistic Assessment: Strategy needs a realistic assessment of the resources of theenterprisemen, money and materialsboth existing resources as also the resources,
the enterprise can command.
4. Acceptable degree of risk: Any major strategy carries with it certain elements of riskand uncertainty. The amount of risk inherent in a strategy should be within the bearable
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capacity of the enterprise.
5. Appropriate time: Time is the essence of any strategy. A good strategy not only providesthe objectives to be achieved but also indicates when those objectives could be achieved.
6. Workability: Strategy must be feasible and should produce the desired results.Strategy Formulation
There are three phases in strategy formation
1. Determination of objectives.2. Ascertaining the specific areas of strengths and weakness in the total environment.3. Preparing the action plan to achieve the objectives in the light of environmental forces.
Strategic PlansAre organization-wide, establish overall objectives, and position an organization in terms ofits environment.
Tactical PlansSpecify the details of how an organizations overall objectives are to be achieved.
Short-term PlansCover less than one year.
Long-term PlansExtend beyond five years.
Strategic Plans Apply broadly to the entire organization. Establish the organizations overall objectives. Seek to position the organization in terms of its environment. Provide direction to drive an organizations efforts to achieve its goals. Serve as the basis for the tactical plans. Cover extended periods of time. Are less specific in their details.
Tactical Plans (Operational Plans) Apply to specific parts of the organization.
Are derived from strategic objectives. Specify the details of how the overall objectives are to be achieved. Cover shorter periods of time. Must be updated continuously to meet current challenges.
Specific and Directional Plans
Specific Plans Clearly defined objectives and leave no room for misinterpretation.
What, when, where, how much, and by whom (process-focus) Directional Plans
Are flexible plans that set out general guidelines. Go from here to there (outcome-focus)
Single-Use Plan
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Is used to meet the needs of a particular or unique situation. Single-day sales advertisement
Standing Plan Is ongoing and provides guidance for repeatedly performed actions in an
organization.
Customer satisfaction policy
Strategic Management
Art & science offormulating, implementing, and evaluating, cross-functional decisions thatenable an organization to achieve its objectives
To exploit and create new and different opportunities for tomorrow
In essence, the strategic planis a companys game plan
Elements Of Strategic Management,as minimum, includes1. strategic planning2. strategic control
Terms In Strategic Management
Purpose :purpose outlines why the organization exists; it includes a description of itscurrent and future business (Leslie W. Rue)
Mission :The mission of an organization is the unique reason for its existence that sets it
apart from all others (A. James, F. Stoner). The organization's mission describes why the
organization exists and guides what it should be doing.
Goals :A goal is a desired future state that the organization attempts to realize (AmitaiEtzioni).
Objectives : Objectives refer to the specific kinds of results the organizations seek to achievethrough its existence and operations (William F. Glueck)
Strategy : The role of strategy is to identify the general approaches that the organizationutilize to achieve its organizational objectives.
Tactics : are specifics actions the organization might undertake in carrying its strategy Policy : "Policies are guide to action. They include how resources are to be allocated and
how tasks assigned to the organization might be accomplished ... (William F. Glueck, and
Lawrence R. Jauch " .Policies include guidelines, procedures, rules, programs, and budgets
established to support efforts to achieve stated objectives
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Strategists
Strategists are the individuals who are involved in the strategic management process. the people responsible for major strategic decisions are the board of director, president,
the chief executive officer, the chief operating officer, and the division managers.
3 Stages of the Strategic Management Process
Strategy formulation Strategy implementation Strategy evaluation
Issues in Strategy Formulation
Businesses to enter Businesses to abandon Allocation of resources Expansion or diversification International markets Mergers or joint ventures Avoidance of hostile takeover
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Developing a strategy-supportive culture Creating an effective organizational structure Redirecting marketing efforts Preparing budgets Developing and utilizing information systems Linking employee compensation to organizational performance Action Stage of Strategic Management
Mobilization of employees & managers Most difficult stage Interpersonal skills critical
HIERARCHY OF COMPANY STRATEGIESThe corporate-level strategy. Executives craft the overall strategy for a diversified
company
Business strategies are developed usually by the general manager of a business unit
Functional strategies. The aim is to support the business and corporate strategies.
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Implementation is the process that turns strategies and plans into actions in order toaccomplish strategic objectives and goals.
Implementing your strategic plan is as important, or even more important, than yourstrategy
According to a Fortune cover story in 1999, nine out of ten organizations fail to implementtheir strategic plan for many reasons:
60% of organizations dont link strategy to budgeting 75% of organizations dont link employee incentives to strategy 86% of business owners and managers spend less than one hour per month
discussing strategy
95% of a typical workforce doesnt understand their organizations strategy
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THE HARD Ss
Strategy: the direction and scope of the company over the long term.
Structure: the basic organization of the company, its departments, reporting lines, areas of expertise
and responsibility (and how they inter-relate).
Systems: formal and informal procedures that govern everyday activity, covering everything from
management information systems, through to the systems at the point of contact with the customer
(retail systems, call center systems, online systems, etc).
THE SOFT Ss
Skills: the capabilities and competencies that exist within the company. What it does best.
Shared values: the values and beliefs of the company. Ultimately they guide employees towards
'valued' behavior.
Staff: the company's people resources and how the are developed, trained and motivated.
Style: the leadership approach of top management and the company's overall operating approach.
Eight Actions of Implementing Strategy
1. Build an Organization2. Marshal resources3. Institute policies4. Pursue best practices and continuous improvement5. Information and operating systems6. Tying rewards to strategy and goals7. Shape corporate culture8. Exert leadership
Building a Capable organization
Staffing Build core competencies Develop an appropriate organizational structure
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Staffing
Find the right people Background, experience, values, personality and management style
Build core competencies Find out what competencies ae needed Develop the ability to do something Hone skills with experience
Build appropriate structure Structure must support strategy What value chain activities should be performed inside the company and which
outside
Structure internal organization around core value chain activities.- what we do well How much centralization and decentralization Dont build walls Link to suppliers and strategic allies
Marshal Resources Move resources to areas where the strategy requires Insure ther are enough resources to fund new initiatives Reduce resources where not needed
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Internal analysis
To identify Strengths to build on Weaknesses to overcome
To find where it stands in terms of Resources, strengths and weaknesses To exploit Opportunities that are inline with its capabilities To assess capability gaps
Resources
Tangible & intangible X capabilities = competencies ----- competitive advantage Resources Assets & Skills Assets Tangible & intangible Tangible Financial, organizational and physical Intangible Human resource, organizational, innovative, reputational, informational,
technological
Capability and Competency
Capability = ability to bundle resources to perform an activity C = (TA+IA+S) Competency = ability of an organization to achieve its purpose Core Competency = certain activities that can be performed exceptionally well compared to
competitors
Core competencies A well-performed internal activity that is central,not peripheral, to a companys
strategy, competitiveness, and profitability
Major value-creating skills and capabilities that are shared across multiple product lines or multiple businesses Results from the collaboration among different parts of an organization
Gives a company a potentially valuable competitive capability
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Tools for I A
SWOT analysis Value chain analysis Financial analysis Key factor rating Functional area profile Strategic advantage profile
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The TOWS Matrix is a conceptual framework for a systematic analysis that facilitates matching the
external threats and opportunities with the internal weaknesses and strengths of the organization
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4 Alternative Strategies
SO strategy: Maxi Maxi WO strategy: Mini Maxi ST strategy: Maxi Mini WT strategy: Mini - Mini
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Identifying External Threats to Profitability and Competitiveness
Emergence of cheaper/better technologies Introduction of better products by rivals Entry of lower-cost foreign competitors Onerous regulations Rise in interest rates Potential of a hostile takeover Unfavorable demographic shifts Adverse shifts in foreign exchange rates Political upheaval in a country
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THE VALUE CHAIN
A TOOL DEVELOPED BY DR. MICHAEL PORTER OF HARVARD BUSINESS SCHOOL CAN BE USED TO EXAMINE THE VARIOUS ACTIVITIES OF THE FIRM AND HOW THEY INTERACT
IN ORDER TO PROVIDE A SOURCE OF COMPETITIVE ADVANTAGE BY:
- PERFORMING THESE ACTIVITIES BETTER OR
- AT A LOWER COST THAN THE COMPET ITORS
TYPES OF FIRM ACTIVITIES
1. PRIMARY :
- THOSE THAT ARE INVOLVED IN THE CREATION, SALE AND TRANSFER OF PRODUCTS (INCLUDING
AFTER-SALES SERVICE)
- INBOUND LOGISTICS:
CONCERNED WITH RECEIVING, STORING, DISTRIBUTING INPUTS
(e.g. HANDLING OF RAW MATERIALS, WAREHOUSING, INVENTORY CONTROL)
- OPERATIONS
COMPRISE THE TRANSFORMATION OF THE INPUTS INTO THE FINAL PRODUCT FORM
(E.G. PRODUCTION, ASSEMBLY, AND PACKAGING)
- OUTBOUND LOGISTICS - INVOLVE THE COLLECTING, STORING, AND DISTRIBUTING THE
PRODUCT TO THE BUYERS
(e.g. PROCESSING OF ORDERS, WAREHOUSING OF FINISHED GOODS, AND DELIVERY)
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- MARKETING AND SALES : - HOW BUYERS CAN BE CONVINCED TO PURCHASE THE PRODUCT
(e.g. ADVERTISING, PROMOTION, DISTRIBUTION)
- SERVICE : INVOLVES HOW TO MAINTAIN THE VALUE OF THE PRODUCT AFTER IT IS PURCHASED
(e.g. INSTALLATION, REPAIR, MAINTENANCE, AND TRAINING)
2. SUPPORT
- THOSE THAT MERELY SUPPORT THE PRIMARY ACTIVITIES
PROCUREMENT: -CONCERNED WITH THE TASKS OF PURCHASING INPUTS SUCH AS RAWMATERIALS, EQUIPMENT, AND EVEN LABOR
- TECHNOLOGY DEVELOPMENTo THESE ACTIVITIES ARE INTENDED TO IMPROVE THE PRODUCT AND THE PROCESS,o CAN OCCUR IN MANY PARTS OF THE FIRM
. HUMAN RESOURCE MANAGEMENTo INVOLVED IN RECRUITING, HIRING, TRAINING,DEVELOPMENT AND
COMPENSATION
FIRM INFRASTRUCTURE: - THE ACTIVITIES WHICH ARE NOT SPECIFIC TO ANY ACTIVITY AREASUCH AS GENERAL MANAGEMENT, PLANNING, FINANCE, AND ACCOUNTING ARE
CATEGORIZED UNDER FIRM INFRASTRUCTURE.
USES OF VALUE CHAIN ANALYSIS
THE SOURCES OF THE COMPETITIVE ADVANTAGE OF A FIRM CAN BE SEEN FROM ITSDISCRETE ACTIVITIES AND HOW THEY INTERACT WITH ONE ANOTHER.
THE VALUE CHAIN IS A TOOL FOR SYSTEMATICALLY EXAMINING THE ACTIVITIES OF A FIRMAND HOW THEY INTERACT WITH ONE ANOTHERAND AFFECT EACH OTHERS COST AND
PERFORMANCE
A FIRM GAINS A COMPETITIVE ADVANTAGE BY PERFORMING THESE ACTIVITIES BETTER ORAT LOWER COST THAN COMPETITORS.
THE VALUE IS THE TOTAL AMOUNT (i.e. TOTAL REVENUE) THAT BUYERS ARE WILLING TOPAY FOR A FIRMS PRODUCTS
THE DIFFERENCE BETWEEN THE TOTAL VALUE (OR REVENUE) AND THE TOTAL COST OFPERFORMING ALL OF THE FIRMS ACTIVITIES PROVIDES THE MARGIN
EVERY ACTIVITY THAT IS DONE BY A FIRM NEEDS TO BE CAPTURED IN A PRIMARY ORSUPPORT ACTIVITY.
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ANALYZING THE CHAIN
COVER THE ENTIRE COST STRUCTURE OF THE COMPANY BE SURE TO INCLUDE THE SUB-CONTRACTED OR OUTSOURCED PORTIONS
LINKAGES WITHIN THE VALUE CHAIN
NOT JUST A COMPILATION OF ACTIVITIES THAT ARE INDEPENDENT OF EACH OTHER; INSTEAD, IT IS A SYSTEM OF ACTIVITIES THAT ARE INTERDEPENDENT BECAUSE THEY ARE
RELATED BY THEIR LINKAGES.
THROUGH THE LINKAGES, THE PERFORMANCE OF ONE ACTIVITY AFFECTS THE COST ORPERFORMANCE OF ANOTHER.
THESE LINKAGES BETWEEN THE ACTIVITIES SUGGEST THAT THE COST ADVANTAGE OR THEDIFFERENTIATION OF A FIRM WOULD DEPEND NOT JUST ON THE COST REDUCTION OR
PERFORMANCE IMPROVEMENT OF AN INDIVIDUAL ACTIVITY.
DO NOT JUST LOOK AT EACH ACTIVITY INDEPENDENTLY THE LINKAGES BETWEEN THE ACTIVITIES CAN BE IDENTIFIED BY SEARCHING FOR WAYS IN
WHICH EACH VALUE ACTIVITY AFFECTS OR IS AFFECTED BY OTHERS.
OPTIMIZATION AND COORDINATION BETWEEN THE VARIOUS ACTIVITIES OF THE FIRM CANBE ACHIEVED BY EXPLOITING THESE LINKAGES.
VERTICAL LINKAGES
LINKAGES CAN ALSO EXIST OUTSIDE THE FIRM; FOR INSTANCE THERE IS A LINKAGEBETWEEN A FIRMS CHAIN AND THE VALUE CHAIN OF ITS SUPPLIERS AND CHANNELS.
e.g. THE ACTIVITIES OF THE RAW MATERIALS SUPPLIERS AFFECT THE ACTIVITIES OF THEFIRM. SIMILARLY, THE ACTIVITIES OF THE DISTRIBUTOR ALSO AFFECT THE FIRM.
THESE LINKAGES CAN PROVIDE OPPORTUNITIES FOR THE FIRM TO ENHANCE ITSCOMPETITIVE ADVANTAGE.
THE VALUE CHAIN OF A FIRM IS A PART OF THE VALUE SYSTEM, WHICH IS THE LARGERSTREAM OF ACTIVITIES FROM SUPPLIERS TO BUYERS.
BECAUSE OF THE INTERACTIONS BETWEEN THEM, THE SUPPLIERS AND EVEN THE CHANNELSAFFECT A COMPANYS VALUE CHAIN.
THE PRODUCT OF A FIRM REPRESENTS A PURCHASED INPUT TO THE BUYERS CHAIN. DIFFERENTIATION CAN RESULT FROM HOW A FIRMS VALUE CHAIN RELATES TO THE VALUE
CHAIN OF ITS BUYER
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VALUE IS CREATED WHEN A FIRM CREATES COMPETITIVE ADVANTAGE FOR ITS BUYER. A FIRM CAN ALSO ENTER INTO COALITIONS WITH INDEPENDENT FIRMS TO ACHIEVE
BENEFITS FROM THE LINKAGES AMONG THEIR VARIOUS VALUE CHAINS.
EXAMPLES OF SUCH COALITIONS ARE TECHNOLOGY LICENSES AND JOINT VENTURES.DEFINE THE BUSINESS UNIT IN WHICH THE VALUE CHAIN WOULD BE OPTIMAL FOR THE
FIRM
e.g. EXPORT SALES DIVISION vs. LOCAL SALES DIVISION
SINCE THE APPLICATION OF THE VALUE CHAIN ANALYSIS TO AN INDUSTRY WILL LIKELY BLUR
OR HIDE THESE SOURCES OF COMPETITIVE ADVANTAGE, DR. PORTER THEREFORE SUGGESTS
THAT:
THE BUSINESS UNIT IS THE CORRECT LEVEL TO CONSTRUCT A VALUE CHAIN
AND THE APPLICATION TO AN ENTIRE SECTOR OR INDUSTRY IS NOT RECOMMENDED.
NEVERTHELESS, VALUE CHAIN ANALYSIS ON AN INDUSTRY LEVEL HAS BEEN PERFORMED IN
NUMEROUS INDUSTRY STUDIES ALL OVER THE WORLD.
THE PEARL 2 PROJECT HAS, THEREFORE, DECIDED TO UTILIZE THE VALUE CHAIN ANALYSIS IN
THE VARIOUS STATE-OF-THE SECTOR REPORTS
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Monte Carlo Analysis
Introduction
Having being named after the principality famous for its casinos, the term Monte Carlo
Analysis conjures images of an intricate strategy aimed at maximizing one.s earnings in a
casino game.
However Monte Carlo Analysis refers to a technique in project management where a
manager computes and calculates the total project cost and the project schedule many
times.
This is done using a set of input values that have been selected after careful deliberation of
probability distributions or potential costs or potential durations.
Importance of the Monte Carlo Analysis
The Monte Carlo Analysis is important in project management as it allows a project manager
to calculate a probable total cost of a project as well as to find a range or a potential date of
completion for the project.
Since a Monte Carlo Analysis uses quantified data, this allows project managers to better
communicate with senior management, especially when the latter is pushing for impractical
project completion dates or unrealistic project costs.
Also, this type of an analysis allows the project managers to quantify perils and ambiguitiesin project schedules.
A Simple Example of the Monte Carlo Analysis
A project manager creates three estimates for the duration of the project: one being the
most likely duration, one the worst case scenario and the other being the best case scenario.
For each estimate, the project manager consigns the probability of occurrence.
The project is one that involves three tasks.
1. The first task is likely to take three days (70% probability), but it can also be completed intwo days or even four days. The probability of it taking two days to complete is 10% percent
and the probability of it taking four days to finish is 20% percent.
2. The second task has a 60% percent probability of taking six days to finish, a 20% percentprobability each of being completed in five days or eight days.
3. The final task has an 80% percent probability of being completed in four days, 5% percentprobability of being completed in three days and a 15% percent probability of being
completed in five days.
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Using the Monte Carlo Analysis, a series of simulations are done on the project probabilities.
The simulation is to run for a thousand odd times and for each simulation, an end date is
noted.
Once the Monte Carlo Analysis is completed, there would be no single project completion
date. Instead the project manager has a probability curve depicting the likely dates ofcompletion and the probability of attaining each.
Using this probability curve, the project manager informs the senior management of the
expected date of completion. The project manager would choose the date with a ninety
percent chance of attaining it.
Therefore it could be said that, using the Monte Carlo Analysis, the project has a ninety
percent chance of being completed in x number of days.
Similarly, a project manager can adjudge the estimated budget for a project using
probabilities to simulate different end results and in turn use the findings in a probability
curve.
How is the Monte Carlo Analysis Carried Out?
The above example was one that contained a mere three tasks. In reality, such projects
contain hundreds if not thousands of tasks.
Using the Monte Carlo Analysis, a project manager is able to derive a probability curve to
show the ambiguity surrounding the duration and the costs surrounding these hundreds or
thousands of tasks.
Conducting simulations involving hundreds or thousands of tasks is a tedious job to be done
manually.
Today there is project management scheduling software that can conduct thousands of
simulations and offer the project manager different end results in a probability curve.
The Different Types of Probability Distributions/Curves
A Monte Carlo Analysis shows the risk analysis involved in a project through a probability
distribution that is a model of possible values.
Some of the commonly used probability distributions or curves for Monte Carlo Analysis
include:
The Normal or Bell Curve: In this type of probability curve, the values in the middle are thelikeliest to occur.
The Lognormal Curve: Here values are skewed. A Monte Carlo Analysis gives this type ofprobability distribution for project management in the real estate industry or oil industry.
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The Uniform Curve: All instances have an equal chance of occurring. This type of probabilitydistribution is common with manufacturing costs and future sales revenues for a new
product.
The Triangular Curve: The project manager enters the minimum, maximum or most likelyvalues. The probability curve, a triangular one, will display values around the most likelyoption.
Conclusion
The Monte Carlo Analysis is an important method adopted by managers to calculate the
many possible project completion dates and the most likely budget required for the project.
Using the information gathered through the Monte Carlo Analysis, project managers are
able to give senior management the statistical evidence for the time required to complete a
project as well as propose a suitable budget.
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Business Portfolio Matrix
A company may have multiple business units (SBUs) that in turn have several product lines
composed of multiple products with variants (items, SKUs). The portfolio matrix is most applicable
at the corporate level (which SBUs?), and at the SBU level (which product lines?)and is often useful
for sorting markets, e.g. regional geographic markets with different characteristics.
The essence of the strategic portfolio matrix is that businesses, products, and markets can be
categorized along variants of two fundamental dimensions: marketattractiveness and relative
businessstrength . For example, the pioneering BCG matrix categorizes businesses based on
relative market share (a proxy for business strength) and market growth (a selective measure of
market attractiveness). The popular GE / McKinsey matrix sorts by multi-factor consolidated
measures of business strength and market attractiveness.
Ultimately, market attractiveness is a calibration of the size of the prospective profit pool available in
the market. In effect, it is an analytical assessment of the industry's aggregatePLC profit peak.
The portfolio framework can be reduced to a very simple resource allocation principle: companies
should invest in products that have large prospective profit pools (the ultimate measure of market
attractiveness), and for which the company has an existing or potential competitive advantage that
enables it to capture a meaningful share of the profit pool.
At the opposite end of the continuum are unattractive markets where a company has no particular
competitive strength. These are small or declining markets that should be avoided. If the company
has legacy products in this category, they should be harvested (i.e. cut costs and raise prices to
maximize profit) or, if unprofitable, divested.
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The most questionable products are in attractive markets where the company has a weak or
unestablished competitive position. Action must be taken to strengthen (develop) the competitive
position (moving the business to the invest / grow quadrant) or the company should cut its losses
and withdraw.
The fourth category is comprised of markets where the company is competitively strong but themarket is unattractive. In these cases, "attractive" may be in the eyes of the beholder. The
aggregate markets may be mature or declining, discouraging participation by most companies. But,
the markets may still be profitable, especially for companies with strong established positions (i.e.
high share, low costs). These companies should maintain their positions and protect the profits and
cash flow generated by the businesses.
Further, the initial sorting and categorization is a static representation. But, markets and
competitive positions are dynamic. Markets are always changing (e.g. growing or declining,
becoming more or less profitable), and competitive positions can be changed via strategic and
tactical initiatives. Projecting these dynamics is fundamental to effective portfolio management.
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The business portfolio is the collection of businesses and products that make up the company. Thebest business portfolio is one that fits the company's strengths and helps exploit the most attractive
opportunities.
The company must:
(1) Analyse its current business portfolio and decide which businesses should receive more or less
investment, and
(2) Develop growth strategies for adding new products and businesses to the portfolio, whilst at the
same time deciding when products and businesses should no longer be retained.
The two best-known portfolio planning methods are theBoston Consulting Group Portfolio Matrix
and the McKinsey / General Electric Matrix (discussed in this revision note). In both methods, the
first step is to identify the various Strategic Business Units ("SBU's") in a company portfolio. An SBU
is a unit of the company that has a separate mission and objectives and that can be plannedindependently from the other businesses. An SBU can be a company division, a product line or even
individual brands - it all depends on how the company is organised.
The McKinsey / General Electric Matrix
The McKinsey/GE Matrix overcomes a number of the disadvantages of the BCG Box. Firstly, market
attractiveness replaces market growth as the dimension of industry attractiveness, and includes a
broader range of factors other than just the market growth rate. Secondly, competitive strength
replaces market share as the dimension by which the competitive position of each SBU is assessed.
The diagram below illustrates some of the possible elements that determine market attractiveness
and competitive strength by applying the McKinsey/GE Matrix to the UK retailing market:
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Factors that Affect Market Attractiveness
Whilst any assessment of market attractiveness is necessarily subjective, there are several factors
which can help determine attractiveness. These are listed below:
- Market Size- Market growth
- Market profitability
- Pricing trends
- Competitive intensity / rivalry
- Overall risk of returns in the industry
- Opportunity to differentiate products and services
- Segmentation
- Distribution structure (e.g. retail, direct, wholesale
Factors that Affect Competitive Strength
Factors to consider include:
- Strength of assets and competencies
- Relative brand strength
- Market share
- Customer loyalty
- Relative cost position (cost structure compared with competitors)
- Distribution strength
- Record of technological or other innovation
- Access to financial and other investment resources
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Porter's Five Forces Model: analysing industry structure
Author:Jim Riley Last updated: Wednesday 24 October, 2012
Overview of the Five Forces Model
Porter identified five factors that act together to determine the nature of competition within an
industry. These are the:
Threat of new entrants to a market Bargaining power of suppliers Bargaining power of customers (buyers) Threat of substitute products Degree of competitive rivalry
He identified that high or low industry profits (e.g. soft drinks v airlines) are associated with the
following characteristics:
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Lets look at each one of the five forces in a little more detail to explain how they work.
Threat of new entrants to an industry
If new entrants move into an industry they will gain market share & rivalry will intensify The position of existing firms is stronger if there are barriers to entering the market Ifbarriers to entry are low then the threat of new entrants will be high, and vice versa
Barriers to entry are, therefore, very important in determining the threat of new entrants. An
industry can have one or more barriers. The following are common examples of successful barriers:
Barrier Notes
Investment cost High cost will deter entry
High capital requirements might mean that only large
businesses can compete
Economies of scaleavailable to existing firms
Lower unit costs make it difficult for smaller newcomers tobreak into the market and compete effectively
Regulatory and legal
restrictions
Each restriction can act as a barrier to entry
E.g. patents provide the patent holder with protection, at
least in the short run
Product differentiation
(including branding)
Existing products with strong USPs and/or brand increase
customer loyalty and make it difficult for newcomers to
gain market share
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Access to suppliers and
distribution channels
A lack of access will make it difficult for newcomers to
enter the market
Retaliation by established
products
E.g. the threat of price war will act to discourage new
entrantsBut note that competition law outlaws actions like
predatory pricing
What makes an industry easy or difficult to enter? The following table helps summarise the issues
you should consider:
Easy to Enter Difficult to Enter
Common technology
Access to distribution channels
Low capital requirements
No need to have high capacity and output
Absence of strong brands and customer
loyalty
Patented or proprietary know-how
Well-established brands
Restricted distribution channels
High capital requirements
Need to achieve economies of scale for
acceptable unit costs
Bargaining power of suppliers
If a firms suppliers have bargaining power they will:
Exercise that power Sell their products at a higher price Squeeze industry profits
If the supplier forces up the price paid for inputs, profits will be reduced. It follows that the more
powerful the customer (buyer), the lower the price that can be achieved by buying from them.
Suppliers find themselves in a powerful position when:
There are only a few large suppliers The resource they supply is scarce The cost of switching to an alternative supplier is high The product is easy to distinguish and loyal customers are reluctant to switch The supplier can threaten to integrate vertically The customer is small and unimportant There are no or few substitute resources available
Just how much power the supplier has is determined by factors such as:
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Factor Note
Uniqueness of the input
supplied
If the resource is essential to the buying firm and no close
substitutes are available, suppliers are in a powerful
position
Number and size of firms
supplying the resources
A few large suppliers can exert more power over market
prices that many smaller suppliers each with a small
market share
Competition for the input
from other industries
If there is great competition, the supplier will be in a
stronger position
Cost of switching to
alternative sources
A business may be locked in to using inputs from
particular suppliers e.g. if certain components or raw
materials are designed into their production
processes. To change the supplier may mean changing a
significant part of production
Bargaining power of customers
Powerful customers are able to exert pressure to drive down prices, or increase the required quality
for the same price, and therefore reduce profits in an industry.
A great example in the UK currently is the dominant grocery supermarkets which are able exert
great power over supply firms. You can see a great video about this issue here.
Several factors determine the bargaining power of customers, including:
Factor Note
Number of customers The smaller the number of customers, the greater their
power
Their size of their orders The larger the volume, the greater the bargaining power
of customers
Number of firms supplying
the product
The smaller the number of alternative suppliers, the less
opportunity customers have for shopping around
The threat of integrating
backwards
If customers pose a threat of integrating backwards they
will enjoy increased power
The cost of switching Customers that are tied into using a suppliers products
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(e.g. key components) are less likely to switch because
there would be costs involved
Customers tend to enjoy strong bargaining power when:
There are only a few of them The customer purchases a significant proportion of output of an industry They possess a credible backward integration threat that is they threaten to buy the
producing firm or its rivals
They can choose from a wide range of supply firms They find it easy and inexpensive to switch to alternative suppliers
Threat of substitute products
A substitute product can be regarded as something that meets the same need
Substitute products are produced in a different industrybut crucially satisfy the same customer
need. If there are many credible substitutes to a firms product, they will limit the price that can be
charged and will reduce industry profits.
As an example, consider the many substitutes that consumers now have to buying a newspaper for
their news
The extent of the threat depends upon
The extent to which the price and performance of the substitute can match the industrysproduct
The willingness of customers to switch Customer loyalty and switching costs
If there is a threat from a rival product the firm will have to improve the performance of their
products by reducing costs and therefore prices and by differentiation.
Degree of competitive rivalry
If there is intense rivalry in an industry, it will encourage businesses to engage in
Price wars (competitive price reductions), Investment in innovation & new products Intensive promotion (sales promotion and higher spending on advertising)
All these activities are likely to increase costs and lower profits.
Several factors determine the degree of competitive rivalry; the main ones are:
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Factor Note
Number of competitors in the
market
Competitive rivalry will be higher in an industry
with many current and potential competitors
Market size and growth
prospects
Competition is always most intense in stagnating
markets
Product differentiation and
brand loyalty
The greater the customer loyalty the less intense
the competition
The lower the degree of product differentiation
the greater the intensity of price competition
The power of buyers and the
availability of substitutes
If buyers are strong and/or if close substitutes are
available, there will be more intense competitive
rivalry
Capacity utilisation The existence of spare capacity will increase the
intensity of competition
The cost structure of the
industry
Where fixed costs are a high percentage of costs
then profits will be very dependent on volume
As a result there will be intense competition over
market shares
Exit barriers If it is difficult or expensive to exit an industry,
firms will remain thus adding to the intensity of
competition
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PEST Analysis
Author:Jim Riley Last updated: Wednesday 24 October, 2012
PEST analysis is concerned with the key external environmental influences on a business.
The acronym stands for the Political, Economic, Social and Technological issues that could affect the
strategic development of a business.
Identifying PEST influences is a useful way of summarising the external environment in which a
business operates. However, it must be followed up by consideration of how a business should
respond to these influences.
The table below lists some possible factors that could indicate important environmental influences
for a business under the PEST headings:
Political / Legal Economic Social Technological
Environmental
regulation and
protection
Economic growth
(overall; by industry
sector)
Income distribution
(change in distribution
of disposable income;
Government spending
on research
Taxation (corporate;
consumer)
Monetary policy (interest
rates)
Demographics (age
structure of the
population; gender;
family size and
composition; changing
nature of occupations)
Government and
industry focus on
technological effort
International trade
regulation
Government spending
(overall level; specific
spending priorities)
Labour / social mobility New discoveries and
development
Consumer protection Policy towards
unemployment
(minimum wage,
unemployment benefits,
grants)
Lifestyle changes (e.g.
Home working, single
households)
Speed of technology
transfer
Employment law Taxation (impact on
consumer disposable
income, incentives to
invest in capital
equipment, corporation
tax rates)
Attitudes to work and
leisure
Rates of technological
obsolescence
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Government
organisation /
attitude
Exchange rates (effects
on demand by overseas
customers; effect on cost
of imported components)
Education Energy use and costs
Competition
regulation
Inflation (effect on costs
and selling prices)
Fashions and fads Changes in material
sciences
Stage of the business
cycle (effect on short-
term business
performance)
Health & welfare Impact of changes in
Information technology
Economic "mood" -
consumer confidence
Living conditions
(housing, amenities,
pollution)
Internet!
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Core Competencies
Author:Jim Riley Last updated: Wednesday 24 October, 2012
Introduction
Core competencies are those capabilities that are critical to a business achieving competitive
advantage. The starting point for analysing core competencies is recognising that competition
between businesses is as much a race for competence mastery as it is for market position and
market power. Senior management cannot focus on all activities of a business and the competencies
required to undertake them. So the goal is for management to focus attention on competencies that
really affect competitive advantage.
Core Competencies are not seen as being fixed. Core Competencies should change in response to
changes in the company's environment. They are flexible and evolve over time. As a business evolves
and adapts to new circumstances and opportunities, so its Core Competencies will have to adapt and
change.
Identifying Core Competencies
Prahalad and Hamel suggest three factors to help identify core competencies in any business:
What does the Core
Competence
Achieve?
Comments / Examples
Provides potential
access to a wide
variety of markets
The key core competencies here are those that enable the creation of new
products and services.
Example: Why has Saga established such a strong leadership in supplying
financial services (e.g. insurance) and holidays to the older generation?
Core Competencies that enable Saga to enter apparently different markets:
- Clear distinctive brand proposition that focuses solely on a closely-defined
customer group
- Leading direct marketing skills - database management; direct-mailing
campaigns; call centre sales conversion
- Skills in customer relationship management
Makes a significant
contribution to the
perceived customer
benefits of the end
product
Core competencies are the skills that enable a business to deliver a
fundamental customer benefit - in other words: what is it that causes
customers to choose one product over another? To identify core
competencies in a particular market, ask questions such as "why is the
customer willing to pay more or less for one product or service than
another?" "What is a customer actually paying for?
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Example: Why have Tesco been so successful in capturing leadership of the
market for online grocery shopping?
Core competencies that mean customers value the Tesco.com experience so
highly:
- Designing and implementing supply systems that effectively link existing
shops with the Tesco.com web site
- Ability to design and deliver a "customer interface" that personalises online
shopping and makes it more efficient
- Reliable and efficient delivery infrastructure (product picking, distribution,
customer satisfaction handling)
Difficult forcompetitors to
imitate
A core competence should be "competitively unique": In many industries,most skills can be considered a prerequisite for participation and do not
provide any significant competitor differentiation. To qualify as "core", a
competence should be something that other competitors wish they had
within their own business.
Example:Why does Dell have such a strong position in the personal
computer market?
Core competencies that are difficult for the competition to imitate:
- Online customer "bespoking" of each computer built
- Minimisation of working capital in the production process
- High manufacturing and distribution quality - reliable products at
competitive prices
A competence which is central to the business's operations but which is not exceptional in some way
should not be considered as a core competence, as it will not differentiate the business from any
other similar businesses. For example, a process which uses common computer components and is
staffed by people with only basic training cannot be regarded as a core competence. Such a processis highly unlikely to generate a differentiated advantage over rival businesses. However it is possible
to develop such a process into a core competence with suitable investment in equipment and
training.
It follows from the concept of Core Competencies that resources that are standardised or easily
available will not enable a business to achieve a competitive advantage over rivals.
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Competitor Analysis
Author:Jim Riley Last updated: Wednesday 24 October, 2012
Introduction
Competitor Analysis is an important part of the strategic planning process. This revision note
outlines the main role of, and steps in, competitor analysis
Why bother to analyse competitors?
Some businesses think it is best to get on with their own plans and ignore the competition. Others
become obsessed with tracking the actions of competitors (often using underhand or illegal
methods). Many businesses are happy simply to track the competition, copying their moves and
reacting to changes.
Competitor analysis has several important roles in strategic planning:
To help management understand their competitive advantages/disadvantages relative to
competitors
To generate understanding of competitors past, present (and most importantly) future strategies
To provide an informed basis to develop strategies to achieve competitive advantage in the future
To help forecast the returns that may be made from future investments (e.g. how will competitors
respond to a new product or pricing strategy?
Questions to ask
What questions should be asked when undertaking competitor analysis? The following is a useful list
to bear in mind:
Who are our competitors? (see the section on identifying competitors further below)
What threats do they pose?
What is the profile of our competitors?
What are the objectives of our competitors?
What strategies are our competitors pursuing and how successful are these strategies?
What are the strengths and weaknesses of our competitors?
How are our competitors likely to respond to any changes to the way we do business?
Sources of information for competitor analysis
Davidson (1997) described how the sources of competitor information can be neatly grouped into
three categories:
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Recorded data: this is easily available in published form either internally or externally. Good
examples include competitor annual reports and product brochures;
Observable data: this has to be actively sought and often assembled from several sources. A good
example is competitor pricing;
Opportunistic data: to get hold of this kind of data requires a lot of planning and organisation.
Much of it is anecdotal, coming from discussions with suppliers, customers and, perhaps, previous
management of competitors.
The table below lists possible sources of competitor data using Davidsons categorisation:
Recorded Data Observable Data Opportunistic Data
Annual report & accounts Pricing / price lists Meetings with suppliers
Press releases Advertising campaigns Trade shows
Newspaper articles Promotions Sales force meetings
Analysts reports Tenders Seminars / conferences
Regulatory reports Patent applications Recruiting ex-employees
Government reports Discussion with shared distributors
Presentations / speeches Social contacts with competitors
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McKinsey Growth Pyramid - Growth Strategy
Author:Jim Riley Last updated: Wednesday 24 October, 2012
Introduction
This model is similar in some respects to the well-establishedAnsoff Model. However, it looks at
growth strategy from a slightly different perspective.
The McKinsey model argues that businesses should develop their growth strategies based on:
Operational skills
Privileged assets
Growth skills
Special relationships
Growth can be achieved by looking at business opportunities along several dimensions, summarisedin the diagram below:
Operational skills are the core competences that a business has which can provide the
foundation for a growth strategy. For example, the business may have strong competencies in
customer service; distribution, technology.
Privileged assets are those assets held by the business that are hard to replicate by competitors.
For example, in a direct marketing-based business these assets might include a particularly large
customer database, or a well-established brand.
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Growth skills are the skills that businesses need if they are to successfully manage a growth
strategy. These include the skills of new product development, or negotiating and integrating
acquisitions.
Special relationships are those that can open up new options. For example, the business may have
specially string relationships with trade bodies in the industry that can make the process of growingin export markets easier than for the competition.
The model outlines seven ways of achieving growth, which are summarised below:
Existing products to existing customers
The lowest-risk option; try to increase sales to the existing customer base; this is about increasing
the frequency of purchase and maintaining customer loyalty
Existing products to new customers
Taking the existing customer base, the objective is to find entirely new products that these
customers might buy, or start to provide products that existing customers currently buy from
competitors
New products and services
A combination of Ansoffs market development & diversification strategy taking a risk by
developing and marketing new products. Some of these can be sold to existing customers who
may trust the business (and its brands) to deliver; entirely new customers may need more
persuasion
New delivery approaches
This option focuses on the use of distribution channels as a possible source of growth. Are there
ways in which existing products and services can be sold via new or emerging channels which might
boost sales?
New geographies
With this method, businesses are encouraged to consider new geographic areas into which to sell
their products. Geographical expansion is one of the most powerful options for growth but also
one of the most difficult.
New industry structure
This option considers the possibility of acquiring troubled competitors or consolidating the industry
through a general acquisition programme
New competitive arenas
This option requires a business to think about opportunities to integrate vertically or consider
whether the skills of the business could be used in other industries.
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Strategic Audit
Author:Jim Riley Last updated: Wednesday 24 October, 2012
In ourintroduction to business strategy, we emphasised the role of the "business environment" in
shaping strategic thinking and decision-making.
The external environment in which a business operates can create opportunities which a business
can exploit, as well as threats which could damage a business. However, to be in a position to exploit
opportunities or respond to threats, a business needs to have the right resources and capabilities in
place.
An important part of business strategy is concerned with ensuring that these resources and
competencies are understood and evaluated - a process that is often known as a "Strategic Audit".
The process of conducting a strategic audit can be summarised into the following stages:
(1) Resource Audit:
The resource audit identifies the resources available to a business. Some of these can be owned (e.g.
plant and machinery, trademarks, retail outlets) whereas other resources can be obtained through
partnerships, joint ventures or simply supplier arrangements with other businesses.You can read
more about resources here.
(2) Value Chain Analysis:
Value Chain Analysis describes the activities that take place in a business and relates them to an
analysis of the competitive strength of the business. Influential work by Michael Porter suggestedthat the activities of a business could be grouped under two headings:
(1) Primary Activities - those that are directly concerned with creating and delivering a product (e.g.
component assembly);
(2) Support Activities, which whilst they are not directly involved in production, may increase
effectiveness or efficiency (e.g. human resource management). It is rare for a business to undertake
all primary and support activities.
Value Chain Analysis is one way of identifying which activities are best undertaken by a business and
which are best provided by others ("outsourced").You can read more about Value Chain Analysis
here.
(3) Core Competence Analysis:
Core competencies are those capabilities that are critical to a business achieving competitive
advantage. The starting point for analysing core competencies is recognising that competition
between businesses is as much a race for competence mastery as it is for market position and
market power.
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Senior management cannot focus on all activities of a business and the competencies required to
undertake them. So the goal is for management to focus attention on competencies that really
affect competitive advantage.You can read more about the concept of Core Competencies here.
(4) Performance Analysis
The resource audit, value chain analysis and core competence analysis help to define the strategic
capabilities of a business. After completing such analysis, questions that can be asked that evaluate
the overall performance of the business. These questions include:
- How have the resources deployed in the business changed over time; this is "historical analysis"
- How do the resources and capabilities of the business compare with others in the industry -
"industry norm analysis"
- How do the resources and capabilities of the business compare with "best-in-class" - wherever that
is to be found-"benchmarking"
- How has the financial performance of the business changed over time and how does it compare
with key competitors and the industry as a whole? -"ratio analysis"
(5) Portfolio Analysis:
Portfolio Analysis analyses the overall balance of the strategic business units of a business. Most
large businesses have operations in more than one market segment, and often in different
geographical markets. Larger, diversified groups often have several divisions (each containing many
business units) operating in quite distinct industries.
An important objective of a strategic audit is to ensure that the business portfolio is strong and that
business units requiring investment and management attention are highlighted. This is important - a
business should always consider which markets are most attractive and which business units have
the potential to achieve advantage in the most attractive markets.
Traditionally, two analytical models have been widely used to undertake portfolio analysis:
- The Boston Consulting Group Portfolio Matrix (the "Boston Box");
- The McKinsey/General Electric Growth Share Matrix
(6) SWOT Analysis:
SWOT is an abbreviation for Strengths, Weaknesses, Opportunities and Threats. SWOT analysis is an
important tool for auditing the overall strategic position of a business and its environment. Read
more about it here.
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Premising and Forecasting
Planning premises are the anticipated environments in which plans are expected to operate Environmental Forecasting
Values and areas of forecasting Forecasting with the Delphi technique
What are the typical steps of the technique?Types of Planning Premises
Different types of planning premises are depicted in the picture (figure) below.
Types of Planning Premises are briefly explained as follows:-
1. Internal and External Premises
1. Internal Premises come from thebusinessitself. It includes skills of the workers,capitalinvestmentpolicies, philosophy ofmanagement, salesforecasts, etc.
2. External Premises come from the external environment. That is, economic, social, political,cultural and technological environment. External premises cannot be controlled by the
business.
2. Controllable, Semi-controllable and Uncontrollable Premises
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1. Controllable Premises are those which are fully controlled by the management. They includefactors like materials, machines andmoney.
2. Semi-controllable Premises are partly controllable. They includemarketingstrategy.3. Uncontrollable Premises are those over which the management has absolutely no control.
They include weather conditions, consumers' behaviour, government policy, natural
calamities, wars, etc.
3. Tangible and Intangible Premises
1. Tangible Premises can be measured in quantitative terms. They include units of productionand sale, money, time, hours of work, etc.
2. Intangible Premises cannot be measured in quantitative terms. They include goodwill of thebusiness, employee's morale, employee's attitude and public relations.
4. Constant and Variable Premises
1. Constant Premises do not change. They remain the same, even if there is a change in thecourse of action. They include men, money and machines.
2. Variable Premises are subject to change. They change according to the course of action.They include union-management relations
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Management by Exception
Management by exception is the practice of examining the financial and operational results of a
business, and only bringing issues to the attention of management if results represent substantial
differences from the budgeted or expected amount. For example, the companycontrollermay be
required to notify management of thoseexpensesthat are the greater of $10,000 or 20% higher
than expected.
The purpose of the management by exception concept is to only bother management with the most
important variances from the planned direction or results of the business. Managers will presumably
spend more time attending to and correcting these larger variances.
The concept can be fine-tuned, so that smaller variances are brought to the attention of lower-level
managers, while a massive variance is reported straight to senior management.
Advantages of Management by Exception
There are several valid reasons for using this technique. They are:
It reduces the amount of financial and operational results that management must review,which is a more efficient use of their time.
The report writer linked to the accounting system can be set to automatically print reportsat stated intervals that contain the predetermined exception levels, which is a minimally-
invasive reporting approach.
This method allows employees to follow their own approaches to achieving the resultsmandated in the company'sbudget. Management will only step in if exception conditions
exist.
Disadvantages of Management by Exception
There are several issues with the management by exception concept, which are:
This concept is based on the existence of a budget against which actual results arecompared. If the budget was not well formulated, there may be a large number of variances,
many of which are irrelevant, and which will waste the time of anyone investigating them.
The concept requires the use of financial analysts who prepare variance summaries andpresent this information to management. Thus, an extra layer of corporate overhead is
required to make the concept function properly.
This concept is based on the command-and-control system, where conditions are monitoredand decisions made by a central group of senior managers. You could instead have a
decentralized organizational structure, where local managers could monitor conditions on a
daily basis, and so would not need an exception reporting system.
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The concept assumes that only managers can correct variances. If a business were insteadstructured so that front line employees could deal with most variances as soon as they arise,
there would be little need for management by exception.
Business Models (Out Sourcing, PPP etc)
A business model describes what a firm will do, and how, to build and capture wealth forstakeholders
Effective business models operationalize good strategies -- turning position and fit intowealth
FOUR ASPECTS OF BUSINESS MODELS
Revenue Sources Cost Drivers Investment Size Critical Success Factors
REVENUE SOURCES
Subscription/Membership Fixed amount at regular intervals prior to receiving product/service
Volume/Unit-based Fixed price in exchange for product/service
Advertising-based Exempt from fee or pays fraction of the value
Licensing & Syndication One time fee
Transaction fee Fixed fee or percentage of total value of transaction
COST DRIVERS
Fixed: item costs do not vary with volume Semi-variable: variable & fixed costs
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Variable: item costs vary with volume Non-recurring: item of cost occurs infrequently
INVESTMENT SIZE
Maximizing finance needs Positive cash flow
Cash Breakeven
CRITICAL SUCCESS FACTORS
An operational function or competency that a company must possess in order to besustainable & profitable
Perform sensitive analysisEFFECTIVE BUSINESS MODELS BUILD & CAPTURE WEALTH
Build wealth: By efficiently(profitably) transforming inputs into something that customers value
enough to pay for again and again and again
By supporting growth
Capture wealth:
By siphoning off some of the accumulated wealth for stakeholders And by developing recognizable value strategic positions, know-how, customers,
free cash flow, lifestyles, social impact that can be captured
About who matters Owners, investors, family, workers, community About what kind of wealth matters Financial capital, social capital, intellectual capital...ie., cash, good life, rich family
life, entrepreneurial impact, social impact
About the strategy that will deliver the wealth that matters to the stakeholders thatmatter
About the structure that supports strategy
BUSINESS MODELS START WITH WHAT THE WORLD GIVES
1.Describe the landscape:
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Porter Environment, industry, and relevant trends.
2. Paint in competitors:
Competitor table. Perceptual maps. What do you need to play? How do competitors compete? What opportunities exist?
3. Identify strengths & weaknesses
Vision, skills, core technologies4. Identify stakeholders you must serve
Owners, family, workers, community5. Identify the wealth you will capture
Capital, good life, family life, fame entrepreneurial effectiveness, social value6. Choose a position or approach
And elaborate a strategy to realize this Especially a revenue model
7. Sketch a structure to
operationalize the strategy
Value chain, activity system, culture, simple rules8. Work out the implications
Functional strategies Timeline and milestones Financial projections & capital needs Path to profitability, sale, or other realization
of value
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Porters Generic Strategies
Overall Cost Leadership Strategy Differentiation Strategy Focused Strategy (low cost or differentiation)
Porter's Generic Strategies
Choosing Your Route to Competitive Advantage
Just one strategic option for airlines.
iStockphoto/alandj
Which do you prefer when you fly: a cheap, no-frills airline, or a more expensive operator with
fantastic service levels and maximum comfort? And would you ever consider going with a small
company which focuses on just a few routes?
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The choice is up to you, of course. But the point we're making here is that when you come to book a
flight, there are some very different options available.
Why is this so? The answer is that each of these airlines has chosen a different way of achieving
competitive advantage in a crowded marketplace.
The no-frills operators have opted to cut costs to a minimum and pass their savings on to customers
in lower prices. This helps them grab market share and ensure their planes are as full as possible,
further driving down cost. The luxury airlines, on the other hand, focus their efforts on making their
service as wonderful as possible, and the higher prices they can command as a result make up for
their higher costs.
Meanwhile, smaller airlines try to make the most of their detailed knowledge of just a few routes to
provide better or cheaper services than their larger, international rivals.
These three approaches are examples of "generic strategies", because they can be applied to
products or services in all industries, and to organizations of all sizes. They were first set out by
Michael Porter in 1985 in his book Competitive Advantage: Creating and Sustaining Superior
Performance. Porter called the generic strategies "Cost Leadership" (no frills), "Differentiation"
(creating uniquely desirable products and services) and "Focus" (offering a specialized service in a
niche market). He then subdivided the Focus strategy into two parts: "Cost Focus" and
"Differentiation Focus". These are shown in Figure 1 below.
The terms "Cost Focus" and "Differentiation Focus" can be a little confusing, as they could be
interpreted as meaning "A focus on cost" or "A focus on differentiation". Remember that Cost Focus
means emphasizing cost-minimization within a focused market, and Differentiation Focus means
pursuing strategic differentiation within a focused market.
The Cost Leadership Strategy
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Porter's generic strategies are ways of gaining competitive advantage in other words, developing
the "edge" that gets you the sale and takes it away from your competitors. There are two main ways
of achieving this within a Cost Leadership strategy:
Increasing profits by reducing costs, while charging industry-average prices. Increasing market share through charging lower prices, while still making a reasonable profit
on each sale because you've reduced costs.
Remember that Cost Leadership is about minimizing the cost to the organization of delivering
products and services. The cost or price paid by the customer is a separate issue!
The Cost Leadership strategy is exactly that it involves being the leader in terms of cost in yourindustry or market. Simply being amongst the lowest-cost producers is not good enough, as you
leave yourself wide open to attack by other low cost producers who may undercut your prices and
therefore block your attempts to increase market share.
You therefore need to be confident that you can achieve and maintain the number one position
before choosing the Cost Leadership route. Companies that are successful in achieving Cost
Leadership usually have:
Access to the capital needed to invest in technology that will bring costs down. Very efficient logistics. A low cost base (labor, materials, facilities), and a way of sustainably cutting costs below
those of other competitors.
The greatest risk in pursuing a Cost Leadership strategy is that these sources of cost reduction are
not unique to you, and that other competitors copy your cost reduction strategies. This is why it's
important to continuously find ways of reducing every cost. One successful way of doing this is by
adopting the JapaneseKaizenphilosophy of "continuous improvement".
The Differentiation Strategy
Differentiation involves making your products or services different from and more attractive those of
your competitors. How you do this depends on the exact nature of your industry and of the products
and services themselves, but will typically involve features, functionality, durability, support and also
brand image that your customers value.
To make a success of a Differentiation strategy, organizations need:
Good research, development and innovation. The ability to deliver high-quality products or services.
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Effective sales and marketing, so that the market understands the benefits offered by thedifferentiated offerings.
Large organizations pursuing a differentiation strategy need to stay agile with their new product
development processes. Otherwise, they risk attack on several fronts by competitors pursuing Focus
Differentiation strategies in different market segments.
The Focus Strategy
Companies that use Focus strategies concentrate on particular niche markets and, by understanding
the dynamics of that market and the unique needs of customers within it, develop uniquely low cost
or well-specified products for the market. Because they serve customers in their market uniquely
well, they tend to build strong brand loyalty amongst their customers. This makes their particular
market segment less attractive to competitors.
As with broad market strategies, it is still essential to decide whether you will pursue Cost
Leadership or Differentiation once you have selected a Focus strategy as your main approach: Focus
is not normally enough on its own.
But whether you use Cost Focus or Differentiation Focus, the key to making a success of a generic
Focus strategy is to ensure that you are adding something extra as a result of serving only that
market niche. It's simply not enough to focus on only one market segment because your
organization is too small to serve a broader market (if you do, you risk competing against better-
resourced broad market companies' offerings.)
The "something extra" that you add can contribute to reducing costs (perhaps through your
knowledge of specialist suppliers) or to increasing differentiation (though your deep understandingof customers' needs).
Generic strategies apply to not-for-profit organizations too. A not-for-profit can use a Cost
Leadership strategy to minimize the cost of getting donations and achieving more for their income,
while one with pursing a Differentiation strategy will be committed to the very best outcomes, even
if the volume of work they do as a result is lower. Local charities are great examples of organizations
using Focus strategies to get donations and contribute to their communities.
Choosing the Right Generic Strategy
Your choice of which generic strategy to pursue underpins every other strategic decision you make,
so it's worth spending time to get it right.
But you do need to make a decision: Porter specifically warns against trying to "hedge your bets" by
following more than one strategy. One of the most important reasons why this is wise advice is that
the things you need to do to make each type of strategy work appeal to different types of people.
Cost Leadership requires a very detailed internal focus on processes. Differentiation, on the otherhand, demands an outward-facing, highly creative approach.
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So, when you come to choose which of the three generic strategies is for you, it's vital that you take
your organization's competencies and strengths into account.
Use the following steps to help you choose.
Step 1: For each generic strategy, carry out aSWOT Analysisof your strengths and weaknesses, andthe opportunities and threats you would face, if you adopted that strategy.
Having done this, it may be clear that your organization is unlikely to be able to make a success of
some of the generic strategies.
Step 2: UseFive Forces Analysisto understand the nature of the industry you are in.
Step 3: Compare the SWOT Analyses of the viable strategic options with the results of your Five
Forces analysis. For each strategic option, ask yourself how you could use that strategy to:
Reduce or manage supplier power.
Reduce or manage buyer/customer power. Come out on top of the competitive rivalry. Reduce or eliminate the threat of substitution. Reduce or eliminate the threat of new entry.
Select the generic strategy that gives you the strongest set of options.
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