Strategy as the foundation for companies
Strategy is a foundation stone over which a company can build its structure to achieve its goals. Strategy is concerned with planning and the long term survival and success of a business. It defines the direction for a firm; it specifies where the business is going and determines how it will get there. It also guides the company towards its financial objectives (Davies and Brooks, 1989 cited in Murphy & Bruce, 2003:193). Strategy is the way to stay ahead from the competitors and to gain more share in the operational market as well as in the new market. In the report different tools are explained to analyse organisational environment, i.e. both external and internal.
To do macro environment analysis the most commonly used tool known as PESTLE.
PESTLE stands for Political, Economical, Social, Technology, Legal, and Ethical Environment. It is very important tool to understand the big picture of the external environment in which the organisation is doing business. By doing the PESTLE analysis the organisation can know about the opportunities and threats associated in the business environment for the organisation. However any organisation cannot change or control this environment but from analysis the external environment the company can be flexible to make the decisions which should be compatible with the environment (Britton & Worthington, 2006; Johnson et al, 2008; Mintzberg et al 1998), figure 1:
Political Environment: Politics is a universal activity which affects the business world in a variety of ways. Understanding political system provides a greater insight into the business decisions and the complexity of the business environment. The organisation needs to pay attention on laws governing to commerce, trade, growth, and investment that are dependent on local government. It today’s world the increasing globalisation of markets, this environment has an international as well as domestic element and both are closely interrelated.
Economical Environment: Economic environment consist of the economic factor such as employment, income, inflation, interest rates, productivity, and wealth that influence the buying behaviour of firms and consumer behaviour. The entire organisation operates in an economic environment locally or globally.
Social Environment: The entire organisations work in a society. Every organisation has to keep in mind that their decision can affect the social environment. Social environment consist of social class, lifestyles, and culture of the people in which the organisation is working.
Technological Environment: In recent years the influence of technological change within the globe has brought about vast changes in how organisations take advantage of opportunities within the market. Hence, changes in technology can affect the organisation in making business plans.
Legal environment: Organisation exist and carry on their activities within a rules and regulation of law which derives from custom, practice, the judicial decision of the courts, and from statues enacted by government. The legal environment is one of the key factors which affect the operation of the organisation.
Ethical environmental: The increasing awareness of environmental changes as it relates to global warming places greater pressure on organisations from environmentalists about how they should ethically prevent the pollution of the environment.
According to (Johnson & scholes, 2008) it is very important to find the key drivers for change rather than focusing on all the details of the environment factors. The external forces impact the “immediate environment” (Johnson et al, 2005) creating competitive forces on the organisation in the industry. In any organisation the managers have to be aware of the company’s environmental factors (Mintzberg et al 1998). These environmental factors can give organisation either opportunities or threat which plays one of the major role in strategy formulation. After doing the external analysis the organisation should the industry analysis. The tool which is most commonly used for the industrial analysis of the organisation is “Porter Five Forces” from which a organisation can know about the power of their industrial competitors, suppliers, substitute, buyers and potential entrants to the market in which organisation operates.
PORTER FIVE FORCES:
Michael porter has identified five forces that determine the intrinsic long-run attractiveness of a market or market segment: industry competitors, potential entrants, substitutes, buyers and suppliers. figure 2:
Sources: Porters, 2004
Porter’s five force framework:
Porters Five Forces framework provides the industry analysis to the organisation. The profit potential of an industry can be determined by the collective strength from the porters five force framework (Mintzberg et al, 1998; Porter, 2004). The five forces are classified as threats of new entrants, threat of substitute, bargaining power of suppliers, bargaining power of customers, and rivalry among the existing firms. An organisation can earn more profit by operating in the environment where all the forces are of low power and if all of them are it can affect the organisation profit margin or revenue. The five forces are
Threats of new entrants:
If there is a growth in the market is high then threats of new entrants is also high. New entrants can affect the market share and bring it down for an existing firm for the same market and they can share the same resources (Mintzberg et al, 1998). There are few barriers for new entrants which protect the existing firms (Porter, 2004). Some of them are explained below
Product Differentiation: New entrants have to create a brand image in the market which already the existing organisation has and due to that they have the customer loyalty which can be achieved by creating value to the customers.
Economies of Scale: New entrants have high unit cost due to the low market share then existing competitors which act as a barrier for the new entrants. To overcome this barrier new entrants have to come on a large scale of that they can overcome with the breakeven point.
Capital Requirements: To enter a new market the entrants have to invest heavily or huge amount of money which act as a barrier for the new entrants.
Rivalry among existing firms:
Rivalry among the existing firms is if the organisation have existing competitors in the market then to gain more market share the organisation have to reduce the price or increase the quality of product or service which reduce the profit margin of the organisation. And it depends on some of the factors.
Number and size of Competitors: if the number of the competitors are high and if they have similar market share then the organisation and the competitors reduces price for the product or service to gain more market share.
Bargaining power of buyers:
Buyers are customers and may be the consumers. Buyers force industry to reduce the cost for the product with high quality or same quality which creates competition among the competitors. The power of buyers can be powerful if they are purchasing large volume as a single customer from the organisation which can force the organisation to reduce or give best price to them which reduce the profit margin of the organisation. And from losing a big customer the organisation can lose market share to the competitors.
Bargaining power of suppliers:
The external sources that provide the input for the organisation to produce the final product are known as suppliers. For an input if the numbers of suppliers are less and there are few substitutes for the input in the market then they can increase the price of the material which affects the company unit cost of the products.
Threats from Substitute:
The products which can serve the same purpose for a product are called substitute. The can decrease the market for the product for an organisation by attracting the customer for that product. If the substitute is of low price and better quality and serving the same purpose they can heavily affect on the market of the product of the organisation and if the number of the substitute is high then it can cause problem to the organisation.
But Porters Five Forces model was developed in 1980 and it was more static which relates the market of 1980’s and in today’s world the market is more unstable and recession has shaken all the strategy of the organisation. Later in mid of 1990 an additional force is been included in the porters five force framework as “Complements” which explain the strategic alliances. According to Haberberg & Rieple (2001); Kippenberger (1998); Wernerfelt (1984); and Rumelt (1984) an organisation should not make the strategy only on the basis of Porter Five Forces framework and PESTLE analysis but should also do internal analysis of the organisation to find the strength and weakness, and about the tangible and intangible assets (core competencies) which can provide the knowledge about the strength and weaknesses of the organisation from which the strength can be used to gain more market share and staying ahead from the competitors and the organisation can work on their weaknesses which can protect them from the competitors.
Porter’s Value Chain:
Every organisation is a collection of activities that are performed to design, produce, and support, deliver, and market its product or services. To diagnose competitive advantage it is necessary to find organisation value chain. Value chain analysis helps the organisation to identify the core competencies and distinguish those activities which drive competitive advantage (Porter, 2004). Value chain breaks an organisation into nine activities. The value chain display total value, and consists of value activities and margins. These activities are the building blocks of the organisation which makes a product or service valuable to the buyers. Value chain can also be used to “analyzing competitors that share a market position based on similar value and cost drivers” (Walker, 2009). The generic value chain diagram is shown in figure 3.
Source: Competitive Advantage (Porter, 2004)
The value chain consists of two activities support and primary which are value activities for the organisation. The primary objective are
Inbound Logistic: Those activities which are associated with receiving, storing, and circulate inputs of the products such as material handling, inventory control, transportation, warehousing, and returns to suppliers.
Operations: Those activities in organisation which are associated with transforming or converting inputs into the finished or final product such as machine operating, maintenance, testing, assembly, and packaging.
Outbound logistic: Those activities which are associated with collecting, storing and physically distribution the final product or service to the customers.
Marketing and Sales: Those activities which are associated with providing a means to the customers to purchase the product or service such as promotion, advertising, pricing, selling, channel selection, channel relations.
Service: Those activities which are associated with providing service or maintain the value of the product such as installation, training, repair, parts supply, and product adjustment.
Each of the above activity may be important to competitive advantage depending on the organisation or industry.
Support value activities involve in competing in any industry and can be divided into four generic categories.
Firm Infrastructure: Organisation infrastructure consist of a number of activities including management, finance, planning, accounting, planning, legal, quality management, investor relations, and government affairs. “Firm infrastructure is sometimes viewed only as “overhead” but can be a powerful source of competitive advantage” (Porter, 2004). Firm infrastructure can be self contained or divided between the business unit and the parent organisation. Most of the activities occur at both the business unit and parent organisation.
Human Resource Management (HRM): HRM consist of activities involved in hiring, recruiting, promotion, general management, training, reward system, development, and compensation of all type of personnel (Porter,2004). The role of the HRM is in determining the motivation and skills of the employee. In some organisation HRM holds the key to competitive advantage.
Technology Development: Technology development consists of a range of activities that can be broadly grouped into efforts to improve the product and service the process of doing it (Porter, 2004). Technology development is important to competitive advantage in all industry and in some organisation it is holding the key factor like in steel industry.
Procurement: “procurement refers to the function of purchasing inputs used in the firm’s value chain, not t the purchased inputs themselves” (Porter, 2004). It includes raw material, suppliers, supplier contract negations, lease negotiations, and consumable items, and assets such as machinery, office equipments, and office or plant buildings, laboratory equipment. The cost of the procurement affects the overall cost of inputs of the company and a part of value chain.
From porter value chain the organisation can break itself but it is not so detailed and every organisation value chain should be more deeply to understand the core competencies (Walker, 2009). The value chain is quantitative analysis and it is time consuming since it mostly requires calibrating the financial system to find the cost to individual activities. The value chain analysis analyse only the tangible assets or physical assets of the organisation forgetting about the tangible assets and culture of the company (Fleisher & Bensoussan, 2002).
Resource Base View:
“What a firm wants is to create a situation where its own resource position directly or indirectly makes it more difficult for others to catch up”(Wernerfelt, 1984:173). According to Prahalad and Hamel organisation “will be judged in their ability to identify, cultivate, and exploit the core competencies that make growth possible” (Prahalad & Hamel, 1990, cited in Wit & Meyer, 2004:325). Resource base view (RBV) is about the inside view of the organisation. Organisations use RBV to analyse or allocate the resources and capabilities which lies in the organisation for competitive strategy to gain more market share from their competitors through internal capabilities. RBV of every organisation differs with the competitors, it analyses the tangible and intangible assets or resources together. Assets or resources can be used in making the strategy when they are unique, rare, unclear, and have some value for the organisation and these can be used for the competitive advantage to the organisation from their competitors. RBV looks into the experience, culture, assets and history of the organisation which always differ from organisation to organisation. Few examples for the resources or assets are Machine capability, customer loyalty production experience, technological leads, mergers and acquisitions. The organisation can look it the valuable resources and use them as strength and can find their weakness against their competitors.
To analyze a firm’s success in an industry in which it is operating, its position in the industry and its attractiveness should be evaluated therefore right product positioning is important. In order to perform profitably a firm should employ its resources optimally. A firm is dependent on its areas of strength for its business in the market. According to Michel E Porter all are the derived strategies from three generic strategies. They are
Source: Competitive advantage, Porter, 2004
COST LEADERSHIP STRATEGY
A firm gains cost leadership when its cost of production is lower than that of its competitors. Cost leadership can be gained by managing the company’s processes resources efficiently and effectively. This strategy focuses on minimizing cost in every aspect of business. A company can adopt the following methods to control cost like developing efficient method of production, curbing overheads and administrative costs, procuring material at low prices and monitoring cost of promotion, distribution and service .By lowering down the cost the firm can sell its products at lower prices and hence earn huge profits. This strategy will also help the firm to gain a competitive edge over others. This strategy works well in an event of price wars in the industry. Firms can gain this cost leadership position by employing certain measures like increased production efficiency, Six sigma techniques, economies of scale, R & D, etc.
Since low cost leadership firms have bigger market share, they will have high bargaining power with suppliers and enjoy above average on investments (Wheelen & Hunger,2002) contrary to this (Cross, 1999) states cost leadership have certain disadvantages, as they create little loyalty to the customers and if the firm reduces the prices it may lose profits.
Product differentiation: (also known simply as "differentiation") is the process of distinguishing a product or offering from others, to make it more attractive to a particular target HYPERLINK "http://en.wikipedia.org/wiki/Target_market"in HYPERLINK "http://en.wikipedia.org/wiki/Target_market"market. This involves differentiating it from competitors' products as well as a firm's own product offerings. Firms that adopt the differentiation strategy successfully have access to advanced scientific research, a highly skilled work force, effective customer communication strategies etc. A firm can differentiate itself from others in terms of its product design, its brand image, its features, technology, customer service, quality etc. By using this strategy a firm is able to influence the perception of customers that the product or service is unique, rather than having to reduce its price to attract customer.
A firm pursuing this strategy tends to serve a specific segment instead of catering to the entire market (niche marketing) .this segment may be a special group of customer, a particular product or service line ,or a specific geographic location .The barrier to entry for new competitors is high .
A firm following a focus strategy and also a differentiated strategy can price their product higher than others.
Risk of easy replication of firm’s strategies by other players
The focus strategy has two variants.
Cost focus: Firms seeks cost advantage in the target market segment. Cost focus is a low cost competitive strategy and exploits cost behaviour differences in some segments. In using this strategy the company seeks a cost advantage in its target segment.
Differentiation focus: Firms seek differentiation in its target market. Differentiation exploits needs of buyers.
According to Wheelen & Hunger (2002) there are various risks involved in implementing competitive strategies, none of the strategy guarantees to achieve success in the market. If the organisation stuck in the middle of any two strategies and not able to provide the requirements then it can be a danger for the organisation. Some companies that try to attempt cost leadership and differentiation and “stuck in the middle” (Porter, 2004). Helms et al, 1997 says that there is much debate on using two generic strategies at the same time, but according to Porter differentiation and cost leadership are “mutually exclusive” (Porter, 2004), on the other hand Helms et al (1997) found companies that used combination strategies have higher returns on investments.
The Ansoff “product/market growth matrix” Ansoff,(1988) ,cited in Johnson et al(2008), provides four alternative directions for strategic development, according to this model the firm can decide their strategy depending on the resources. This matrix helps the firm to determine the growth strategies of the firms. Figure 5:
Source: International Journal of Entrepreneurial Behaviour & Research
Market penetration: The strategy of increasing the sales in the current market with the existing products. In this the organisation spends heavily on the marketing so that the customers who are unknown of the product can know about the product and quality and to break them from the competitors.
Product development: It is the strategy of increasing sales with the development of current product or producing new product. Developing a new product in the current market needs lot of innovation as they should match the customer value.
Market development: It is the strategy of increasing sales of the existing products in the new market attracting new customers, moving to new geographical area, new segments.
Diversification: It takes the firm completely away from the existing market and the existing products. Diversification takes place when new products are developed and sold in new markets. Diversification allows the firms to spread the risks in a wide array of markets.
SWOT framework stand for the strength, weakness, opportunity, and threats for the organisation for the market. Strength and weakness for an organisation are related to internal environment for the organisation. Opportunity and threats for the organisation relates to the external environment. The external and internal environment analysis should be done deeply for the better result for the organisation. According to Grant “that an arbitrary classification of external factors into opportunity and threats, and internal factors into strengths and weaknesses, is less important than a careful identifications of these external and internal factors followed by an appraisal of their implications.” (2008:13). However there are limitations for this tool which are identified by Pearce & Robinson (2007).
A SWOT analysis can stress internal strength for the threats from the external environment.
In SWOT analysis strength is not necessarily a source of competitive advantages.
Generic Strategies of Ryan Air and British Airways, figure 6:
Ryan airways: the strategy Ryan Airways use is cost leadership which is to gain market share by keeping the cost of the product low and fulfilling the basic needs of the customers. From cost leadership stand point Ryan airways attracts maximum customers thereby capturing the huge market share of the airline industry. Ryan airways focus on point to point service for small routes so that they don’t have to offer meals which are mainly provided in long routes, for example, “In 2008, the company flew an average route length of 662 kilometres and average flight duration of approximately 1.57 hours” (Data Monitors, 2009:5). Ryan Airways using cost leadership strategy to reduce price more so it can fight with competitors. Ryan Airways are also the being the cost operator airline industry to achieve this strategy. And to achieve this cost leadership strategy organisation should look in all the other factors like marketing, operations to be the cheap and should clear the message to the customers. Ryan Airways use secondary airport because if there is any delay in the flight it can re schedule is faster and can save extra airport handling tax.
British Airways: British Airways use the differentiation strategy by providing more quality to the customers at the high price. British airways provide high quality according to the customer needs. From this strategy the British Airways earn high profit and invest more in marketing, operations and other parts of the organisation. They main of British Airways is to be the best airline in world by providing the high quality service and to develop a brand image which people and customers know and trust it. In this strategy customer loyalty is needed and British airways maintain it by giving high quality of service. British airways use it service quality as an intangible assets from its competitors. British Airways provide all the facilities in the flight and use primary airport to provide customer a better value.
This report clearly explains that strategy is one of the major or only defences which organisation has from the competitors. It clearly shows how to operate the tools for the analysis of internal and external environment of an organisation in which it operates. It is clearly shown that using a single tool is not enough to make strategy for the organisation. And to indentify the strength and weakness which is related to internal environment the organisation should do internal environmental analysis and for opportunity and threats which is related to external environment from the external and industry environmental analysis. This report shows the limitation of the tools to do the analysis of the environments.
Organisation should use multiple tools for making the strategy.
Different tools should be use for different environments.
For SWOT analysis the organisation should do internal and external analysis.
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