Pharmaceutical distributor study of olke company

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Olke Company is a distribution company in Iran; its main activities are distribution of pharmaceuticals, and hygienic products.

It is a private distribution company and has to compete with mostly state-owned pharmaceutical distributors. Many state-owned distributors depend heavily on government subsidies for survival. Being privately owned, Olke Company is facing the question of how to grow in the competitive environment as well as to increase sales. Hence, the purpose of this study, designing a growth strategy for the company, becomes crucial.

In this study, based on the general process of strategy formulation, the most appropriate development strategy for the company will be proposed. Firstly, an external scanning relied on macro-environment and industry environment analysis to identify opportunities and threats for the company is carried out. Secondly, the company's activities such as marketing, distribution, etc. are examined to reveal strengths and weaknesses of the company. Finally, derived from the determined strengths, weaknesses, opportunities, and threats, the most appropriate development strategy for the company is proposed.

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Chapter 1

Introduction

If we could first know where we are and whither we are tending, we could better judge what to do and how to do it.

Abraham Lincoln.

The purpose of this chapter is to introduce the major problem of this study, formulating a growth strategy for Olke Company in the long-term. Research objectives, scope and limitations, methodology and framework, as well as organization of the study are also presented accordingly.

1.1. Background

Olke is a privately owned pharmaceutical distribution company established in 1995 and based in Tehran, Iran. The company has a wide range of pharmaceutical and hygienic products from local and international pharmaceutical companies. The company has branch offices in major cities in Iran. Iranian Pharmaceutical Incorporation, Daru Pakhsh, and Khosroshahi Baradaran Company had a 71.6% and 26.4% share of the total drugs imported respectively. In other words, the entire imports of pharmaceutical dosage forms were monopolized by the government sector. These state-owned firms wholly administrated the country's centralized medicine distribution.

Although over 85 percent of the Iranian's use an insurance system to get their money back from drug expenses, the government heavily subsidizes pharmaceutical production/importation in order to increase affordability of medicines. The regulatory environment of the country is rather strict on the import of drugs and pharmaceuticals towards companies that intend to enter into the market for the first time. The government controls the prices of the drugs as a result the profit margin for a pharmaceutical distributor is very low. The general conclusion drawn by most managers is to have an open market and providing benefits to all companies not only government controlled companies. What needs to be done to correct and improve this situation? Clearly, the private companies in this industry need to have plan a growth strategy in the long-run. This problem will be illustrated more clearly through the case of Olke Company.

Although considered as one of the successful companies in the pharmaceutical distribution industry, Olke Company has also faced with various difficulties, particularly the lack of the vision for a strategy in the long-term.

1.2. Problem Statement

Based on the examination and analysis the external and internal environment, this study will formulate a growth strategy for the Olke Company in the long term.

1.3. Objectives

This study aims to establish a growth strategy for the Olke Company. Specifically, it aims to accomplish the following:

To identify strengths and weaknesses as well as opportunities and threats that the Olke Company has been faced with.

To assess the current strategic situation of the company in order to develop its competitive profile.

To establish a strategy to develop the Olke Company in the long term.

1.4. Scope and limitations of the study

This study is about the Olke Company, specifically about pharmaceutical drugs, the main product of the company. It focuses on the formulation the growth strategy for the company in the long-term.

The depth of this study depends partly on the availability of the key data of the Iranian economy and the Pharmaceutical Industry in general, especially of Olke. It also depends on cooperation from the company and faces resources constraints.

1.5. Methodology and framework of the study

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This study will begin with a review of literature which concerns the strategic management process, particularly the process of strategy formulation. It also mentions to the concepts and principles of the Porter Model to analyze the competitive environment of the industry.

Necessary data for this study were collected from 2 main sources:

Primary data: Interviews in-depth with managers, key persons of the pharmaceutical companies, Olke Company as well as other specific distributor companies. Annual reports and other relevant data were also collected.

Secondary data: Relevant data about the pharmaceutical industry and the Iranian economy will be collected from the National Statistics Office, Ministry of Industry, as well as from newspapers, media, etc.

The framework of this study can be illustrated by Figure 1.1.

Problem

L I T E R A T U R E R E V I E W

STRATEGY FORMULATION PROCESS

PORTER' S INDUSTRY ANALYSIS MODEL

Figure 1.1 Framework of the study

CONCLUSIONS AND RECOMMENDATIONS

GENERATION, EVALUATION, AND SELECTION OF THE BEST STRATEGY

Scan internal environment

S I T U A T I O N A N A L Y S I S

Opportunities

Threats

Strengths

Weaknesses

Evaluate current performance results

Scan external environment

Analyse the competitive environment

1.6. Organization of the study

The study is organized as follows:

Chapter 1 provides an introduction including the rationale of the study, the identification of the problem, the objectives, the scope and limitations as well as the methodology and framework of the study.

Chapter 2 shows the literature review of the topic being considered. This will encompass the fundamental ideas on strategy, strategic management, strategy formulation process as well as the Porter Model for analyzing industry.

Chapter 3 provides an analysis of external factors that help to indicate the company's strategic position. The main contents of the chapter will deal with the current situation and strategic orientation for the Iranian Pharmaceutical Industry in the future. It also mentions about the structural analysis of the pharmaceutical industry, the main area of competition of Olke Company.

Chapter 4 deals with the current analysis of the Olke Company in terms of organizational structure, production, sales, marketing and finance. The ultimate goal of the chapter is to identify strengths and weaknesses of the company in order to locate its present competitive position.

Chapter 5 is devoted to the expected outcome of the study to develop the strategic alternatives based on the analysis from previous parts, that will help the company achieve outstanding performance in the next few years.

Finally, Chapter 6 deals with practical recommendations on the implementation of the selected strategy.

Chapter 2

Literature Review

Strategy is when you are out of ammunition, but you keep right on firing so that the enemy won't know.

Author Unknown.

In this chapter, we shall review some literature that is directly relevant to the topic and the content of this research study. It is started with definition of strategic management and narrow down to the scope of study that focuses on strategic formulation stage. A number of industry analysis techniques will be examined to support the strategic formulation activities.

Strategic management process

Definition of strategy

Starting from its military root, strategy, ever considered as "the science of planning and directing military operations", is not a new term. However, applications of this concept into business area are a breakthrough idea took place in the latter half of this century. In the decades of 1960s and 1970s, most management definitions of strategy by many authors were emphasized on the planning them as an important component. Alfred Chandler has defined strategy as "the determination of the basic long term goals and objectives of an enterprise, and the adoption of course of action and the allocation of resources necessary for carrying out these goals". The main idea in Chandler's definition is that strategy involves a rational planning process. The organization is depicted as choosing its goals, identifying courses of action (or strategy) that best enable it to achieve its goals, and allocating resources accordingly. Similarly, Quinn defined strategy as "the pattern or plan that integrates an organization's major goals, policies and action sequences into a cohesive whole". Finally, Glueck defined strategy as "a unified, comprehensive and integrated plan designed to ensure that the basic objectives of enterprises are achieved". (Hill/Jones,1989)

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However, definitions of strategy based on planning have been criticized. Hill and Jones indicated a new approach based on Henry Mintzberg's definition of strategy as "a pattern in a stream of decisions or action" (Hill and Jones, 1989), the pattern being a product of whatever intended (planned) strategies are actually realized and of any emergent (unplanned) strategies. Mintzberg's concept of strategy suggests that strategy involves more than just planning a course of action

In the decades of 1980s and 1990s, "strategy" became more and more essential in business domain. Thereby, the concept of strategy has received a great attention by various authors

Hax and Majluf (1991) pointed out that strategy can be seen as a multidimensional concept that involves all the critical activities of the firm, providing it with a sense unity, direction and purpose as well as facilitating the necessary change caused by its environment (Glueck/Janch, 1986).

Johnson and Schole (1993) have stated the nature of corporate strategy by the characteristics usually associated with the word "strategy" or "strategy decision".

In summary, according to them, strategy is a unified, comprehensive and integrated plan that relates the strategic advantages of the firm to the challenges of the environment and that is designed to ensure that the basic objectives of the enterprises are achieved through proper execution by the organization (Glueck/Janch, 1986)

The concept of strategy has become one of everyday words of managers during the past 20 years and the practice of strategic planning is now widespread among large and medium sized companies. This interest in strategy was caused by growing realization that the company' s environment has become progressively changeable and discontinuous from the past and that as a result, objectives alone are insufficient as decisions rules for guiding the company's strategic reorientation as it adapts to changing challenges, threats and opportunities.

The process of strategic management

The strategic management process can be broken down into five different components. The five components are (1) selection of the corporate mission and major corporate goals; (2) analysis of the organization's external competitive environment to identify opportunities and threats; (3) analysis of the organization's internal operating environment to identify the organization's strengths and weaknesses; (4) the selection of strategies that build on the organization's strengths and correct its weaknesses in order to take advantage of external opportunities and counter external threats; and (5) strategy implementation. The task of analyzing the organization's external and internal environment and then selecting an appropriate strategy is normally referred to as strategy formulation. In contrast, strategy implementation typically involves designing appropriate organizational structures and control systems to put the organization's chosen strategy into action.

Based on the context of this study, the focus will be on the strategy formulation process.

The first six steps commonly found in strategy formulation are a series of interrelated activities:

(1) Evaluation of:

the corporation's current performance results in terms of return on investment, profitability, etc, and the corporation's current mission, objectives, strategies, and policies.

(2) Evaluation of the corporation's strategic managers - board of directors and top management.

(3) Scanning of the external environment to locate strategic opportunities and threats.

(4) Scanning of the internal corporate environment to determine strategic strengths and weaknesses.

(5) Analysis of the strategic factors from step (3) and (4) to pinpoint problem areas, and review and revise the corporate mission and objectives as necessary.

(6) Generation, evaluation, and selection of the best alternative strategy appropriate to the analysis (Source: Wheelen / Hunger, 1988)

The above strategy formulation process can be divided into sub-stages, as illustrated in figure 2.1:

The first is the situation analysis. Beginning with an evaluation of current performance and ending with the review and possible revision of mission and objectives.

The second is the process of generation, evaluation, and selection of the best alternative strategy.

In order to build up an appropriate competitive strategy, it is necessary for the competitive environment analysis - an industry structure analysis.

Figure 2.1: Strategy formulation process

Strengths

Weaknesses

Analyse competitive environment

Entry

Buyers

Suppliers

Substitutes

Competitors

Evaluate strategic managers

Develop:

Mission

Objectives

Analyze strategic factors in light of current situation

Examine & evaluate the current

Mission

Objective

Strategy

Policies

Evaluate current performance result

GENERATION, EVALUATION, AND SELECTION OF THE BEST STRATEGY

Scan internal

Environment

Opportunities

Threats

Scan external

Environment

Structural analysis of the competitive environment:

To succeed a company must either fit its strategy to the industry environment in which it operates, or be able to reshape the industry environment to its advantage through its chosen strategy. Companies typically fail when their strategy no longer fits the environment in which they operate, as illustrated in Figure 2.3.

Competitive success requires

Reshape environment by choice of strategy

Creates a new environment where there is a fit between strategy and environment

Fit with environment

Figure 2.3 - Requirements for Competitive Success

A formal strategic industry analysis can be used to identify environmental opportunities and threats. Opportunities arise when environmental trends create the potential for a company to achieve a competitive advantage. Threats arise when environmental trends endanger the integrity and profitability of a company's business.

Porter's framework, known as the five forces model helps managers in this analysis. This model focuses on five forces that shape competition within an industry: (1) the risk of new entry by potential competitors, (2) the degree of rivalry among established companies within an industry, (3) the bargaining power of buyers, (4) the bargaining power of suppliers, and (5) the closeness of substitutes to an industry's products, as shown in Figure 2.4. The task facing strategic managers is to determine which of these forces are of greatest importance to the organization and which can be influenced by the strategic decisions of management and to recognize opportunities and threats as they arise and to formulate appropriate strategic responses as well.

Porter argues that "competition in an industry is rooted in its underlying economics, and competitive forces exist that go well beyond the established combatants in a particular industry". (Porter, 1980). He further suggests that to compete effectively a company should strive to find a position where it is best able to defend itself against these competitive forces or can influence them its favor. The task of the strategist is therefore to determine which of these forces are of greatest importance to the organization and which can be influenced by the strategic decisions of management. Each of these forces is now considered in greater detail.

1. The Threat of Entry

New entrants to an industry tend to make it more competitive. The additional competitiveness may be due to a number of factors including: the additional capacity which they bring with them, their attempts to build market share, or increased costs due to the building up of the costs of the factors of production.

However, the effects of new entrants materialize; it is frequently in the interests of existing competitors to deter potential new entrants by making their prospects look as unattractive as possible. This can be done in two major ways - through the erection of barriers to entry and or through the threat of severe retaliation.

Clearly, it is in the interests of existing firms to have as high entry barriers as possible. Porter (McNamee, 1987) lists major barriers to entry which are:

Economies of scale

Product differentiation

Capital requirements

Switching costs

Access to distribution channel

Cost disadvantages independent of scale, for example: proprietary knowledge, etc.

Government policy.

Figure 2. 2: The Porter five forces model

Rivalry among established company

Threat of entry by potential competitors

Bargaining power of buyers

Bargaining power of suppliers

Threat of substitute products

The importance of entry barriers to strategic planning can be illustrated by two contrasting examples as follows:

The U.K aircraft engine manufacturer Rolls Royce has erected around it substantial entry barriers in the form of economies of scale, product differentiation, capital requirements, switching costs, proprietary knowledge, experience advantages and government support. It seems extremely unlikely that the threat of new entrants pose a threat to this company. The competitive threat that Rolls Royce faces come from other quarters.

By way of contrast, an "industry" that has grown rapidly in the early 1990s and which faces continuous threats from new entrants, because of the extremely low entry barriers, is internet cafes. In this industry, many small independent entrepreneurs with limited resources have opened such business. They have been able to do so because of the low entry barriers: low capital requirements, low switching costs, immediate distribution and no major economies of scale being possible.

(Source: Johnson / Scholes, 1993)

In the Iranian pharmaceutical distribution industry, the government has very strict regulation and conditions for new entrants. The license permit is also not provided easily. Entering the field requires a lot of capital. Therefore, it is possible to say that, in general, entry barriers for the pharmaceutical distribution industry are low.

2. The Power of Buyers

Buyers can be viewed as a competitive threat when they force down prices or when they demand higher quality and better service (which increases operating costs). Whether buyers are able to make demands on a company depends on their power relative to that of the company. According to Porter, buyers are most powerful in the following circumstances:

Buyers are few in number and large relative to sellers

Buyers purchase in large quantities.

The supply industry depends on them for a large percentage of its total orders.

Buyers can switch orders between supply companies at a low costs, thereby playing off companies against each other to force down prices.

It is economically feasible for them to purchase the input from several companies at once.

Buyers have the potential for backward integration.

The buyers' product is not strongly affected by the quality of the suppliers' product

The buyer has full information.

(Source: Hill / Jones, 1989)

As mentioned earlier, the company distributes pharmaceutical products provided by the supplier to different buyers i.e. pharmacy, hospital, NGO's etc. the buyers cannot buy products directly from the supplier, therefore the threat of backward integration is not a threat. But the buyers have the option to purchase their products from several distributors. The distributors provide varies discount packages to attract the customers to buy from them. From the above mentioned points it can be said that the buyers have to a larger extent an upper hand and hence more power to dictate.

3. The Power of Suppliers

Powerful suppliers can have the same adverse effects upon profitability as powerful buyers. The big difference is the sources of their power - it is really the opposite of the sources of buyer power. Thus suppliers tend to be powerful when the following conditions obtain:

There are few of them.

There are few substitutes.

The industry supplied is not an important customer

The suppliers' product is an important component to the buyer' s business

The supplier's product is differentiated

Suppliers can integrate forward.

The power of the supplier is the most crucial factor which affects the company. The suppliers do not provide their products to private distributors very easily. The suppliers mostly are also government pharmaceutical companies which have to first provide their products to government distributors and satisfy their demands. Therefore, it is possible to say that, in general, the power of suppliers for the pharmaceutical distribution industry is high.

4. The Threat of Substitutes

Substitutes, or alternative products that can perform the same function, limit the price that an industry can charge for its products. Substitutes are not always perceived by an industry to be present, and indeed may only be noticed when it is too late to arrest their dominance. One typical example, which illustrates the rise of a substitute product, is the current increasing proliferation of low cost microcomputers plus low cost easy to use business packages in such areas as accounting, data base management and word processing. This "product" has adversely affected the "industry" of specialist programmers and specialist computer bureau. It seems likely that this trend will continue.

The threat of substitutes for the distributor is low, since there is no other way for the customers to get their products. The government does not allow the customers to buy directly from the pharmaceutical companies. The pharmaceutical companies also cannot afford to have this facility as it raises their cost. Clearly, with regards to pharmaceutical products, the threat of substitutes is very low.

5. The Extent of Competitive Rivalry

Competitors will also be concerned with the degree of rivalry between themselves in their own industry. How intense is this competition? What is it based on? Is it likely to increase or decrease in intensity? How can it be reduced? All these are questions which need to be thought about in the process of strategic analysis. The degree of rivalry is likely to be based on the following:

The extent to which competitors in the industry are in balance. Whatever their number, where competitors are of roughly equal size there is a danger of intense competition as one competitor attempts to gain dominance over another. Conversely, the most stable markets tend to be those with dominant organizations within them.

A market in slow growth - particularly one which is entering its maturity stage and where competitors are keen to establish themselves as market leaders - is likely to be highly competitive.

High fixed costs in an industry, perhaps through high capital intensity or high costs of storage are likely to result in competitors cutting prices to obtain the turnover required. This can result in price wars and very low margin operations.

If the addition of extra capacity is in large increments then the competitor making such an addition is likely to create at least short term over-capacity and increased competition.

Again the importance of differentiation is clear. If a product or service is not differentiated then there is little to stop customers switching between competitors, which in turn raises the degree of rivalry between them. This is sometimes referred to as a "commodity market" situation.

Where there are high exit barriers to an industry, there is again likely to be the persistence of excess capacity and consequently increased competition. (Source: McNamee, 1987)

As mentioned, there are a limited numbers of distributors who provides pharmaceutical products to different buyers. Also most of the distributors are government owned and hence they receive products from the pharmaceutical companies very easily and there is not much competition among them. But the private distributors have to differentiate their service to the customers and the suppliers to be able to get the product and sell it to the customers. Consequently, the competition between competitors in the industry, particularly in the field of new products that the demand for them has been at the saturation point, becomes more and more aggressive.

In summary, the current structure of the Iranian pharmaceutical distribution industry can be depicted through Porter model as in Figure 2.4.

POTENTIAL ENTRANTS

COMPETITIVE RIVALRY

AGRESSIVE

SUBSTITUES

Threat of Substitutes

Low

Low

Threat of Entrants

Suppliers

High

Bargaining Power

High

Bargaining Power

Buyers

Figure 2.4 The Porter model applied for the Iranian pharmaceutical distribution industry

A reflection on the combined impact of exit and entry barriers on the profitability of an industry is presented in Table 2.1.

EXIT BARRIERS

Low High

ENTRY BARRIERS

High

LowHigh and stable profit

High but possibly unstable profit

Low

HighLow and stable profit

Low and unstable profit

Table 2.1 The impact of entry and exit barriers over industry profitability (Hax / Majluf, 1991)

In conclusion, it is in the context of the above five dimensional competitive environment that strategic decisions should be made. The context for each firm and industry tends to be different and therefore the types of strategic action necessary for success will be shaped by the overall industry structure. Therefore, one of the first steps in strategic analysis should be an industry structure analysis, with the objective of locating the firm in its competitive environment. Henderson (Ansoff, 1987) made a similar point about the importance of the competitive environment when he talked about Competitive Mapping. He has suggested that companies will only be able to evolve effective strategies after they have plotted their own and their competitors' locations on a competitive map. Once an individual company has done this, then its strategy should be to move against the weakest sectors in its competitive map.

2.3. Selecting development strategy

As soon as completing the tasks of identification of the most relevant competitors, of selection of the critical success factors and of developing a competitive profile, companies have to select a strategy that is most appropriate for their development. Options about development strategies involve decisions about three elements that are depicted in Figure 2.5.

DEVELOPMENT STRATEGIES

ALTERNATIVE METHODS

Internal development

Acquisition

Joint development/alliances

GENERIC STRATEGIES

Cost leadership

Differentiation

Focus

ALTERNATIVE DIRECTIONS

Withdrawal

Consolidation

Market penetration

Product development

Market development

Diversification

related

unrelated

How?

What basis?

Which

direction?

Figure 2.5 Development strategies (Source: Johnson / Scholes, 1993)

2.3.1. Generic strategies

According to Porter, the competitive strategies will be designed based on the choice from three basic competitive approaches: cost leadership, differentiation, and focus (Porter, 1985). These strategies are shown in Table 2.2.

A cost leadership strategy, where "a firm sets out to become the low-cost producer in its industry ... a low-cost producer must find and exploit all sources of cost advantage. Low-cost producers typically sell a standard product and place considerable emphasis on reaping scale or absolute cost advantage from all sources... If a firm can achieve and sustain overall cost leadership, then it will be an above-average performer in its industry provided it can command prices at or near the industry average" (Porter, 1985)

A differentiation strategy, which Porter defines as seeking "to be unique in its industry along some dimensions that are widely valued by buyers... It is rewarded for its uniqueness with a premium price... A firm that can achieve and sustain differentiation will be an above-average performer in its industry if its price premium exceeds the extra costs incurred in being unique... The logic of the differentiation strategy requires that a firm choose attributes in which to differentiate itself that are different from its rivals" (Porter, 1985)

COMPETITIVE ADVANTAGE

COMPETITIVE SCOPE

Broad

target

Cost leadership

Differentiation

Narrow

target

Cost focus

Differentiation focus

Table 2.2 Generic strategies (Source: Porter, 1985)

These two generic ways can be combined with the market scope in which the firms try to achieve competitive advantage. This leads to the focus strategy, according to Porter, which is based on "the choice of a narrow competitive scope within an industry. The focuser selects a segment or group of segments in the industry and tailors its strategy to serving them to the exclusion of others." (Porter, 1985) There are two variants here, "in cost focus a firm seeks a cost advantage in its target segment, while in differentiation focus a firm seeks differentiation in its target segment" (Porter, 1985).

Each of the above generic strategies results from the company's making consistent choices on product, market, and distinctive competences - choices that reinforce each other. Table 2.3 summarizes the choice appropriate for each generic strategy.

Cost Leadership

Cost leadership

Differentiation

Differentiation

Focus

Focus

Cost leadership

Focus

Differentiation

Cost leadership

Product differentiation

Low (principally by price)

High (principally by uniqueness)

Low to High (price or uniqueness)

Market segmentation

Low (mass market)

High (many marketing segments)

Low (one or few segment)

Distinctive competence

Manufacturing and materials management

Research and Development

Sales and Marketing

Any kind of distinctive competence

Table 2.3 Product / Market / Distinctive competence choice and generic competitive strategy (Source: Hill / Jones, 1989)

2.3.2. Strategic development directions

Based on sets of "product/market" choice, there are different directions for companies' strategy development. These directions are shown in Table 2.4.

PRODUCT

Present New

MARKET

Present

Withdrawal

Consolidation

Market penetration

Product development

New

Market development

Diversification

Table 2.4 Alternative directions for development

(Source: Ansoff, 1987)