Senior Seminar in Management Corporate Strategy Notes

8.1 What Is Corporate Strategy? ● Business strategy- how to compete in a single product market ● Corporate Strategy- decisions to gain competitive advantage in several industries and markets simultaneously ○ Answers the question of where to compete ● Corporate Strategy determined along three dimensions and three corresponding questions: ○ 1. Vertical integration: what stages of the industry value chain should the company be apart of? ■ Industry value chain = transformation of raw materials into finished goods/services ○ 2. Diversification: what range of products/services should the company offer? ○ 3. Geographic Scope: where should the company compete? ● Why do firms need to grow? Increased profitability, lower costs, increase market power, reduce risk, and motivate management ● Core Competencies: unique strengths embedded deep within a firm ○ Allows differentiation, creating higher value for customer/offering comparable products/services at a lower cost ● Economies of scale: occur when a firm’s average cost per unit decreases as its output increases ● Economies of scope: savings that come from producing two + outputs or providing different services at less cost than producing each individually (though using same resources and technology) ● Transaction costs: costs associated with economic exchange ○ transaction costs can help leaders decide if it is cost effective for a firm to expand its boundaries through vertical integration or diversification 8.2 The Boundaries of the Firm ● Transaction cost economics: theoretical framework that helps explain/predict boundaries of a firm ● External transaction costs: occurs when companies transact in the open market… they are the costs of searching for a firm/individual to form a contract with, then the cost of negotiating, monitoring, and enforcing contract ● Internal transaction costs: costs occur within the firm… includes costs associated with organizing economic exchanges within a firm ○ Example: costs of recruiting/retaining employees, paying salaries/benefits, providing office space, etc ● When Cinhouse < Cmarket, a firm should vertically integrate (owning production of needed inputs/channels of distribution for outputs) ● When Cmarket < Cinhouse, a firm should purchase the needed inputs/channels (outsource) ● ● Pros/Cons of insourcing/outsourcing Principal-agent problem: when an agent (manager) who is acting on behalf of the principal (owner of the firm) pursues his or her own interests Since separation of ownership and control is a hallmark of a publicly traded company, some degree of this problem is almost unavoidable Information asymmetry: when one party is more informed than other because possession of private information ○ Caveat emptor=buyer beware ○ information asymmetry can cause crowing out of desirable goods/services by inferior ones ○ ● ● ● ● ● ● ● ● make/buy continuum Short term contracts: firm sends out requests for proposals (RFPs) to several companies, which triggers competitive bidding contracts ○ Pro: allows a longer planning period than individual market transactions ○ Con: firms responding to the RFP have no incentive to make any transaction-specific investments Strategic Alliances: voluntary arrangements between firms that involve the sharing of knowledge, resources, and capabilities with the intent of developing processes, products, or services Long-term contracts: have more incentives to make transaction-specific investments ○ Licensing: enables firms to commercialize intellectual property (patents) ○ Franchising: franchisee has right to use the franchisor’s trademarks/business processes to offer goods/services with the franchisors brand name Equity Alliances: partnership in which at least one partner takes partial ownership in the other partner ○ Partner purchases an ownership share by buying stock or assets ○ Tends to signal greater commitment to the partnership Joint venture: two+ partners create and jointly own a new organization ○ Long-term commitment which facilitates transaction-specific investments Parent-subsidiary relationship: corporate parent owns the subsidiary and can direct it via command and control ○ Transaction costs: capital budgeting process, transfer prices ○ most-integrated alternative to performing an activity within one’s own firm boundaries 8.3 Vertical Integration along the Industry Value Chain ● Vertical integration: firm’s ownership of its production of needed inputs/channels by which it distributes output ● ● ● ● ● ● ● ● ● ● /forward integration along industry value chain Most firms only concentrate on a few stages in the industry value chain, and some only focus on one Backward vertical integration: moving ownership of activities upstream to the originating inputs of value chain Forward vertical integration: moving ownership of activities closer to the end of the customer Benefits of vertical integration: lowering costs, improving quality, facilitating scheduling and planning, facilitating investments in specialized assets, securing critical supplies and distribution channels Vertical integration can facilitate investments in specialized assets Specialized assets: have high opportunity costs (significantly more value in their intended use than in their next-best use) ○ Several forms of specialized assets: site specificity, physical-assets specificity (particular customer), human-asset specificity ○ Can bring threat of opportunism by one of the partners (self-interest seeking) Risks of vertical integration: increasing costs, reducing quality, reducing flexibility, increasing the potential for legal repercussions (monopoly concern) ○ Higher costs: in-house suppliers tend to have higher cost structures because they are not exposed to market competition… organizational complexity can increase costs… administrative costs can increase ○ External suppliers can reap learning learning & develop unique capabilities/improvements so sometimes in house processes can reduce quality ○ Strategic flexibility can decrease when faced with changes in external environment (fluctuations in demand or technological change) Vertical market failure: occurs when transactions within the industry value chain are too risky, and alternatives to integration are too costly or difficult to administer ○ When a company vertically integrates 2+ steps away from core competency, it fails 2/3rds of the time Alternatives to vertical integration: Taper Integration & Strategic Outsourcing ○ Taper Integration: firm is backwardly integrated - but it relies on outside market firms for some of its supplies- and/or firm is forwardly integrated - but relies on outside market firms for some of its distribution ■ Taper Pro’s: exposes in-house suppliers/distributors to market competition, enhances firm’s flexibility (can respond to demand fluctuations), and firms can combine internal and external knowledge (paving path towards possible innovation) ○ Strategic Outsourcing: involves moving one+ internal value chain activities outside the firm’s boundaries to other firms in the industry value chain ■ Allows for benefits of vertical integration without the accompanying risks ■ Reduces level of vertical integration ■ Example: outsourcing human resources ■ Offshoring if outside the country 8.4 Corporate Diversification: Expanding Beyond a Single Market ● Diversification: expansion beyond a single market ● Diversification strategies: ○ Product diversification strategy: firm active in several different product markets ○ Geographic diversification strategy: firm active in several countries ○ Product-market diversification strategy: company pursues both a product and geographic diversification strategy simultaneously ● Two key variables to classify the four main types of diversification: percentage of revenue from the primary business and relationship of the core competencies across business units ○ Classification scheme concerns product markets not geographic diversification ● Four types of business diversification ○ Single business- low level of diversification ■ Derives more than 95% of its revenues from one business unit ○ Dominant business ■ Derives between 70-95% of revenues from a single business, but pursues at least one other business activity that accounts for the remainder of revenue ○ Related diversification ■ Derives less than 70% of its revenues from a single business activity and obtains revenue from other lines of business linked to the primary business activity ● Benefits economies of scale and scope- multi-business firms can pool and share resources as well as leverage competencies across different business lines ● Most likely to lead to superior performance ○ Unrelated diversification: the conglomerate (limited number of linkages between new business activities) ■ Derives less than 70% of its revenues from a single business and there are few (if any) linkages among its businesses (conglomerate) ● Single business and unrelated diversification have lowest performances ● Core Competencies-Market Matrix: framework to guide corporate diversification strategy by analyzing possible combinations of existing/new core competencies and existing/new markets ● ● Four Options to Formulate Corporate Strategy via Core Competencies ○ 1. Leverage existing core competencies to improve current market position ○ 2. Build new core competencies to protect and extend current market position ○ Redeploy and recombine existing core competencies to compete in markets of the future ○ Build new core competencies to create and compete in markets of the future ● ● ● ● ● ● ● The diversification-performance relationship ○ Inverted U Firms pursuing unrelated diversification are often unable to create additional value ○ They experience diversification discount: the stock price of such highly diversified firms is valued at less than the sum of their individual business units Restructuring: process of reorganizing and divesting business units and activities to refocus a company to leverage its core competencies more fully BCG’s growth-share matrix (SBU’s) ○ Each category represents a different investment strategy Influence costs: political maneuvering by managers to influence capital and resource allocation and the resulting inefficiencies stemming from suboptimal allocation of scarce resources Coordination costs: function of the number, size, and types of businesses that are linked Related-linked diversification strategy: one in which executives pursue various businesses opportunities that share only a limited number of linkages 9.1 How Firms Achieve Growth ● Three corporate growth strategy options: organic growth through internal development, external growth through alliances, or external growth through acquisitions ● Build-borrow-or-buy framework: conceptual model that aids strategic leaders in deciding whether to pursue internal development (build), enter a contractual arrangement or strategic alliance (borrow), or acquire new resources, capabilities, and competencies (buy) ○ Firms that select right pathways are more likely to gain competitive advantage ○ VIRO model ● Internal development should occur when the firm’s resources are both similar and superior to those of competitors in the targeted area ● Four questions to consider to when deciding how to achieve growth: 1. Relevancy: how relevant are the firm’s existing internal resources to solving the resource gap 2. Tradeability: how tradable are the targeting resources that may be available externally 3. Closeness: how close do you need to be to your external resource partner 4. Integration: how well can you integrate the targeted firm (if you determine you need to acquire the resource partner) ● Relevancy: relevance of internal resources evaluated in two ways- tests whether resources are 1) similar to those the firm needs to develop 2) superior to those of competitors in the targeted area ○ If both conditions are met, firm’s internal resources are relevant and the firm should pursue internal development ● Tradability: the firm is able to source the resource externally through a contract that allows for the transfer of ownership or use of the resource ○ Firms can borrow resources through licensing or franchising ● Closeness: often, firms are able to obtain the required resources to fill strategic gap through more integrated strategic alliances such as equity alliances or joint ventures ○ Mergers and acquisitions are the most costly, complex, and difficult to reverse strategic option ■ This implies that only if extreme closeness to the resource partner is necessary to understand and obtain its underlying knowledge should be considered is the buy option ● Firm should always first consider to borrowing option 9.2 Strategic Alliances ● Strategic alliances: voluntary arrangements between firms that involve the sharing of knowledge, resources, and capabilities with the intent of developing processes, products, or services ○ Helps a firm gain and sustain competitive advantage by joining resources and knowledge ○ Have a high failure rate ● Relational view of competitive advantage: strategic management framework that proposes that critical resources and capabilities frequently are embedded in strategic alliances that span firm boundaries ● Why do firms enter strategic alliances? ○ Strengthen competitive position, enter new markets, hedge against uncertainty, access critical complementary assets, learn new capabilities ● Real-options perspective to strategic decision making breaks down a larger investment decision into a set of smaller decisions that are staged sequentially over time ○ Allows the firm to obtain additional information at predetermined stages ■ After each stage, firm evaluates whether or not to make further investments ● Complementary asses: assets such as marketing, manufacturing, and after-sale service that are needed for successful commercialization of a new product or service ○ New firms need complementary assets to complete the value chain from upstream innovation to downstream commercialization ● Co-opetition: cooperation between competitors to achieve a strategic objective ○ Cooperate to create a larger pie but then might compete about how the pie should be divided ■ Can cause learning races (firms who learn quicker may have an incentive to exit the alliance or reduce its knowledge sharing) ● Alliances can be governed through: non-equity alliances, equity alliances, joint ventures ○ Non-equity alliances: based on contracts between firms (most common) ■ Supply agreements, distribution agreements, licensing agreements ■ Firms tend to share explicit knowledge- patents, user manuals, fact sheets, etc ■ Flexible and easy to initiate/terminate ■ Can product weak ties because they are temporary in nature (lack of trust/commitment) ○ Equity alliance: at least one partner takes partial ownership in other partner ■ Less common because they require larger investments ■ Signal stronger commitments ○ ○ ○ ○ ● ■ Allow for tacit knowledge (cannot be codified) (knowing how to do a certain task ■ Downsides: amount of investment and time/effort ■ Advantages: window into new technologies, emergence of trust and commitment, stronger ties ○ Joint Ventures: standalone organization created jointly by 2+ parent companies ■ Strong ties, trust, and commitment ■ Entail long negotiations and significant investments ■ Higher risk if it fails ■ Disadvantage: knowledge shared could be misappropriated by opportunistic behavior Alliance management capability: firm’s ability to effectively manage three alliance-related tasks concurrently, often across a portfolio of many different alliances ● ● ● ○ Firm may need to employ it with several different alliances ○ Involves partner selection and alliance formation Ongoing management of the alliance can be accomplished if the alliance partners make relation-specific investments, establish knowledge-sharing routines, and build inter firm trust ○ Learning by doing approach Components of post-formation alliance management: make relation-specific investments, build inter firm trust, establish knowledge-sharing routine 9.3 Mergers and Acquisitions ● Merger: describes the joining of two independent firms to form a combined entity ● Acquisition: purchase or takeover of one company by another ○ Hostile takeover: when a target company does not want to be acquired ● Horizontal integration: process of merging with a competitor at the same stage of the industry value chain ○ Should go ahead with horizontal integration if the target firm is more valuable inside the acquiring firm than as a continued standalone company ● 3 main benefits to a horizontal integration strategy: reduction in competitive intensity, lower costs, increased differentiation ● Reduction in competitive intensity: can cause legal issues ● Lower cost: lower costs through economies of scale and to enhance their economic value creation ● Increased differentiation: filling gaps in a firm’s product offering, allowing the combined entity to offer a complete suite of products and services ● Acquisition benefits: access to new markers and distribution channels, access to a new capability or competency, strategic preemption ● Mergers and acquisitions on average destroy rather than create shareholder value ○ Why do we see so many then? Principal agent problems, the desire to overcome competitive disadvantage, superior acquisition and integration capability 11.1 Organizational Design and Competitive Advantage ● ● ● ● ● ● ● ● ● ● ● Organizational design: process of creating, implementing, monitoring, and modifying the structure, processes, and procedures of an organization ○ Enables managers to translate their chosen strategy into a realized one ○ Structure, culture, control Firm’s strategy often follows its structure (done to maintain status quo) ○ But STRUCTURE MUST FOLLOW STRATEGY Inertia: a firm’s resistance to change the status quo can set the stage for the firm’s subsequent failure Building blocks of organizational structure: specialization, formalization, centralization, hierarchy Specialization: division of labor Formalization: extent to which employee behavior is steered by explicit and codified rules and procedures ○ Detailed written rules/policies Centralization: degree to which decision making is concentrated at the top of the organization Hierarchy: determines the formal, position-based reporting (who reports to whom) ○ Span of control: how many employees directly report to a manager Mechanistic organizations: high degree of specialization and formalization & a tall hierarchy that relies on centralized decision making Organic organizations: low degree of specialization and formalization, flat organizational structure, decentralized decision making ○ Fluid and flexible information flow, faster decision making, higher employee motivation/retention/satisfaction/creativity Management frequently fails at strategy implementation because managers cannot make needed adjustments due to the firm’s resource allocation and power distribution 11.2 Strategy and Structure ● Simple structure: founders tend to make all the important decisions as well as run the day to day operations ○ Small firms with low organizational complexity ● Functional structure: organizational structure that groups employees into distinct functional areas based on domain expertise ○ Functional areas correspond to distinct stages in the value chain ○ When firms have a fairly narrow focus in terms of product/service offerings combined with a small geographic footprint ○ Cost leadership, differentiation, and blue strategy ● Ambidextrous organization: enables managers to balance and harness different activities in trade off situations (blue ocean) over time ○ Balance exploitation (applying current knowledge to enhance firm performance in the short term) and exploration (searching for new knowledge that may enhance a firm’s future performance) ● Drawbacks of the functional structure: lacks effective communication channels across departments ● Multidivisional structure: several distinct strategic business units with CEOs that report to the corporate office ● READ MORE FOR TEST 11.3 Organizing for Innovation ● Closed innovation R&D: focus on discovering, developing, and commercializing new products and services internally ○ Costly and time consuming ○ But allowed firms to fully capture the returns made from their R&D investments to generate their own innovations ● Shift from closed innovation to open innovation in recent years ● Factors leading to switch: ○ Increasing supply and mobility of skilled workers exponential growth of venture capital Increasing availability of external options to commercialize ideas that were previously shelved or insource promising ideas and inventions ○ Increasing capability of external suppliers globally Open innovation: framework for R&D that proposes permeable firm boundaries to allow a firm to benefit not only from internal ideas and inventions but also from ideas and innovations from external sources ○ Customers, suppliers, universities, start up companies, competitors Network organizational structure ○ Should be supported by uniform, company-wide policies and procedures ○ Enables firms to access communities of practice International… functional Multidomestic… multidivisional w divisions according to geographic areas (decentralized decision making) Global standardization… multidivisional w divisions according to products (centralized decision making) Transnational… global matrix, balance of centralized/decentralized decision making, two layers of hierarchy Multidivisional structure: firms that pursue either related or unrelated diversification Network structure: enables a firm to connect its centers of excellence independent of where they are located in the world ○ ○ ● ● ● ● ● ● ● ● 11.4 Organizational Culture: Values, Norms, and Artifacts ● Socialization: process where employees learn about an organization's culture through immersion in day to day operations ● Founder imprinting: company founders define and shape an organization's culture that may last for decades after their departure ● Downside of a strong culture: groupthink ● Culture can turn from a core competency into a core rigidity if a firm relies too long on the competency without honing, refining, and upgrading as the firm and the environment change ● It can be difficult to imitate cultures because of causal ambiguity and social complexity 11.5 Strategic Control-and-Reward Systems ● Strategic control and reward systems are internal governance mechanisms put in place to align the incentives of principals (shareholders) and agents (employees) ○ Allow managers to specify goals, measure progress, and provide performance feedback ● Input controls: define and direct employee behavior through a set of explicit and codified rules and standard operating procedures ○ Used when the goal is to define the ways and means to reach a strategic goals/ensure a predictable outcome ○ Budgets, standard operating procedures ● Output controls: seek to guide employee behavior by defining expected results (outputs), but leave the means to those results open to individual employees, groups, or SBUs ● Results-only-work-environments: output controls that attempt to tap intrinsic employee motivation