Michael Porter: Impact of Strategic Management Theory

The field of strategic management is complex and multi-faceted. Strategic management has been defined in many different ways. The basic tenet of the Positioning School is that strategies are generic positions in a competitive marketplace and are based on analysis by a consulting firm. Michael Porter, indisputably one of the most influential thinkers on management and competitiveness in the world laid the groundwork for strategic positioning in 1980 with his book Competitive Strategy in which he presented his Five Forces model. His 1985, work, Competitive Advantage, described his activity-based view and introduced his Value Chain model. Since the publication of these influential works, their popularity has continued due to their general applicability and ease of use.

Keywords: Michael Porter, strategic management, Five Forces Model, Value Chain Model, Porter, Positioning School.

The Influence of Michael Porter

The field of strategic management is complex and multi-faceted. Numerous definitions have been proposed in an attempt to prescribe the essential elements of management strategy and to discover a methodology to satisfy once and for all the needs of managers seeking to maximize their organizations’ potential in the dog-eat-dog business world.

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Strategic management has been defined in many different ways based on the organization’s mission, policies, sector, structure, objectives, strengths, weaknesses, opportunities, threats, key success factors or decisions, capabilities, planning, implementation, and sustainable competitive advantage (Sadler, 2003). Generally, strategic management is the means by which organizational managers seek to bolster the success of their businesses via a series of competitive maneuvers. Such maneuvers may be taken with regard to the external environment in which the firm is currently operating or in relation to the organizations internal capabilities (or inabilities) (Sadler, 2003). Mintzberg, Ahlstrand and Lampel (as cited in Sadler, 2003, p. 15) developed a method of organizing these numerous schools of thought into three major groups labeled the Prescriptive, Descriptive, and Configurational Schools.

The Descriptive group consists of those schools which seek to describe strategic management in terms of how it is formed in practice. The Configurational group encompasses one single school of thought which has two facets, the first seeking to describe the organization’s state and context, and the second endeavoring to depict the strategy-making process. The Prescriptive Group is composed of those schools which venture to define strategic management in terms of how it should be formulated, as opposed to how it is formed in practice (see Descriptive Schools above). Within the Prescriptive group reside the design, planning, and positioning schools.

The design school seeks to define strategic management as a conceptual process, and the most recent manifestation of this approach is the SWOT (strengths, weaknesses, opportunities, and threats) Analysis, developed by Ken Andrews in the early 70’s. SWOT analysis aims to analyze the firm in terms of internal factors — strengths and weaknesses, and external environmental factors — opportunities and threats, in order to gain a competitive advantage. The planning school, on the other hand, focuses primarily on the future and has as its principal goal the formulation of decisions and actions that will guide the organization’s actions and define its purpose. Michael Porter’s seminal and best-known work, Competitive Strategy, laid the foundation of the positioning school. The basic tenet of this school is that strategies are generic positions in a competitive marketplace and are based on analysis by a consulting firm.

A renowned business management theorist and commonly recognized as the father of modern management theory, Porter is a respected professor holding the prestigious Bishop William Lawrence University Professorship at Harvard Business School. He is a prolific author; since 1976, he has written some 18 books and more than 125 articles on competition and strategy. Porter has advised management in numerous U.S. and international companies and governments worldwide and has won many honors and awards for his work in economics and strategic management theory. Michael Porter is indisputably one of the most influential thinkers on management and competitiveness in the world.

Michael Porter’s Theories

Porter is best known for the prescient theories illuminated in his 1980 work Competitive Strategy: Techniques for Analyzing Industries and Competitors. The hallmark of Porter’s works, Competitive Strategy presented Porter’s five forces model, five elements that affect an industry’s profitability, and his generic strategies which are intended to counter those forces. In his follow-up piece, The Competitive Advantage: Creating and Sustaining Superior Performance, published in 1985, Porter developed his Value Chain Model, a framework for activity-based competitive analysis of a firm.

Porter’s Five Forces Model

Porter’s five forces are classified as industry-level (vice organizational-level) determinants of long-term profitability in an industry. These economic and technical characteristics are said to be foundational, key factors to industry success and affect such critical industry elements as prices, the degree of investment necessary for competitiveness, market share, potential profits, and profit margins, and industry volume (Childress & Kirkwood, 2006). The five forces are industry competitors, pressure from substitute products, bargaining power of suppliers, bargaining power of buyers, and potential entrants. These five forces acting in unison comprise the competitive environment in which the firm must operate.

The nature of competition within the industry is affected by factors such as the size of competitors the number of competitors, changes in demand for products, asset specificity, the strength of exit barriers and competitor variety and is generally considered to be the most powerful force. Competitive tactics employed by one firm may affect the entire industry (Mayo, Grigoroudis and Zopoundis, 2006).

Pressure from substitute products affects the industry by imposing an artificial price ceiling. Decreases in customer switching costs and increases in the price of substitute products are causes of competitive pressure. The threat of substitutes varies inversely to the price of substitute products and consumer’s switching costs (Mayo, Grigoroudis and Zopoundis, 2006).

The bargaining power of suppliers affects competition particularly when there are many, limited substitutes for raw materials exist, or when switching costs increase. When suppliers raise prices, or reduce prices or services or the quality of goods or services, competition intensifies. When suppliers reduce quality or services or increase prices, competition increases (Mayo, Grigoroudis and Zopoundis, 2006).

Buyers affect competition when they are able to negotiate lower prices, distribution and quality. The number and concentration of consumers and product differentiation are influences. Switching costs and the power of buyers to backwards integrate are factors as well (Mayo, Grigoroudis and Zopoundis, 2006).

High entry (and exit) barriers are a deterrent to companies seeking to enter new industries. New entrants alter the competitive climate by increasing capacity and competition for market share and by adding new resources. Entry barriers may take the form of “capital requirements, economies of scale, product differentiation, switching costs, access to distribution channels, cost of promotion and advertising, and so on” (Mayo, Grigoroudis and Zopoundis, 2006, p. 835).

Porter’s model is versatile, popular and widely used. From banking to brewing, numerous examples of studies conducted using Porter’s model to analyze the competitive climate of a variety of industries can be found easily. Several of these are summarized below.

Finnish publishing

In a study investigating the effect of the internet on the consumer Finnish magazine publishing industry using Porter’s five forces model (Ellonen, Kuivalainen et al., 2008) conducted semi-structured interviews of eight industry experts. The researchers identified specific examples of some of the forces shaping competition within that industry. They chose Porter’s model as the vehicle for their analysis because it is a useful tool for examining the industry structure and assists in the analysis of industry competitiveness.

They noted that the internet had intensified rivalries among competitors by making proprietary information and that competitors habitually benchmarked each other’s websites. Financing and support functions were recognized as barriers to entry. As for the treat of substitute products and services, the most significant threat was identified as the internet itself because it offers readers alternative ways to spend their leisure time and their money. Notably, however, neither the bargaining power of buyers (both consumers and advertisers) nor the bargaining power of suppliers was considered a significant hazard.

Online banking

Smith (2006) studied the online banking industry and, like the authors in the study of the Finnish publishing industry, used Porter’s five forces model to identify the strategic forces affecting the industry. Smith chose Porter’s model because it provides clarity, ease of understanding, and is insightful when examining a complicated and complex issue like strategic management.

Smith noted that economies of scale and product differentiation, capital requirements, limited distribution channels, and government regulation were substantial barriers to entry in online banking. Conversely, the bargaining power of suppliers is relatively weak as is the bargaining power of buyers, chiefly due to the low-cost or free nature of online banking services. Pressure from substitute products is considerable. Traditional banking offers customers a personal touch and some do feel online services are secure enough. Other substitute products are credit unions, ATMs and other financial institutions and credit card companies. Not surprisingly, Smith found that competition is intense in the online banking industry. This is largely due to the increasing popularity of computers the internet with each successive generation and the cost savings gained from using online services.

European beer

Niederhut-Bollmann and Theuvsen (2008), in yet another example of the versatility of Porter’s model, analyzed the dynamic competitive environment of the European (German and Croatian) brewing industry. Niederhut-Bollmann and Theuvsen chose Porter’s model, they say, because it is powerful, thorough, and provides a flexible framework for this type of analysis. The authors of this study provided a detailed look at the competitive forces affecting both the German and Croatian brewing industries. Moreover, they offered an extensive analysis of the generic strategies which various breweries had adapted in order to position themselves in the face of the industry’s competitive pressures.

Porter’s Generic Strategies

Porter postulated three generic or broad alternative strategies which may be pursued as a response to the competitive pressures. They are termed generic strategies because they are broadly applicable to any industry or business. They are differentiation, cost leadership, and focus. A focus strategy may be further defined as cost focus, differentiation focus, or cost and differentiation focus (Ormanidhi & Stringa, 2009).

A differentiation strategy may be based on actual unique product features or the perception thereof, conveyed through the use of advertising and marketing tactics, in the eyes customers. Obviously, the product or service feature must be one the customer needs or desires. Moreover, such enhanced features and designs or advertising and marketing will increase costs, and customers must be price-insensitive – willing to pay for the differentiated product or service. This willingness to pay for the differentiated product of service is what provides the company relief from competitive pressure, cost pressure specifically. Firms pursuing a cost leadership strategy must make lower production and distribution costs their priority (Thomas, J., 2006).

By keeping their cost lowers than those of their competitors, firms using cost leadership can still price their products up to the level of their competitors and still maintain higher gross profit margins. Alternatively, these firms can price their products lower than those of their competitors in the hope of achieving greater market share and sales volume at the expense of gross profit margins (Thomas, J., 2006). A focus strategy is based on a particular market, customer, product, or geographic.

A Focus strategy is a concentrated, narrowly focused niche strategy (Mayo, D., Grigoroudis, E. & Zopoundis, C., 2006). It will normally be employed by smaller companies or small target markets. Products and services may be customized to the extent that customers are allowed input throughout all stages of production.

European brewing

In the case of European breweries mentioned above, Niederhut-Bollmann and Theuvsen (2008) noted that one German brewer used a cost leadership strategy to undercut larger competitors’ prices by as much as 50 percent. Another brewer used national brands to increase customer loyalty in a differentiation strategy. Klosterbrauerei Neuzelle, founded in 1589, uses traditional brewing techniques for a small local market, a focus strategy. The authors note that although Porter, in his original work, warned that a firm should choose one specific strategy, he later (2001) accepted that a hybrid strategy (lower operating costs and premium prices) may be appropriate.

Japanese industry

Allen, Helms, Takeda, & White, (2007) studied the use of Porter’s generic strategies in Japanese firms. According to the authors, the traditional style of Japanese management in which “all employees of a company share risks and gains of the operation;” layoffs are a last resort, even during economic crises; and lifetime employment with a single company is expected, is often cited as a primary cause of the ongoing Japanese recession (p. 70).

Recently the Japanese government implemented the Porter Prize in an attempt to spur improvement in the competitiveness of Japanese industry. Several small and medium-sized forms have received the prize presumably due to their strategy of operating in niche markets, a focus strategy. Larger corporations, those who operate under the keiretsu, or “lineage” system have not substantially participated in the program arguably due to the characteristic inability to react to change and over-reliance on a group decision-making style inherent in the keiretsu system. The authors believe that encouraging Japanese firms to vie for the Porter Prize will enable those firms to become accustomed to employing competitive strategies and become more profitable.

Michael Porter’s Five Forces Model is still popular today due to its broad applicability and because it is easy to use. Competitive Strategy laid the foundation for the Positioning School of strategic management philosophy. Porter’s Five Forces Model and his generic strategies have substantially influenced strategic management thought for the last thirty years and will undoubtedly continue to do so.

The Value Chain Model

In 1985, Porter followed up and built upon his Competitive Strategy with Competitive Advantage. In Competitive Advantage, Porter developed the concept of a sustainable advantage and introduced his Value Chain Model. Porter referred to his own model as an activity-based view because used the activities of the firm to analyze the organization’s competitive advantage.

Value, Porter said, was defined as the sum total that a buyer is willing to pay for what the firm produces or delivers and is measured as total revenue or price times the number of units sold. Economically speaking, the firm’s value must exceed its costs, or it is not considered profitable. Competitive analyses, therefore, must be focused on those value-generating activities which influence the company’s costs and provide a means for strategic differentiation (Patnaik and Sahoo, 2009).

The value chain, according to Porter, is part of the larger value system comprised of the individual value chains of industry suppliers, constituent firms, distributers and buyers (Patnaik and Sahoo, 2009). Interestingly, the term “value system” has been as widely accepted as “value chain” has; the term “industry value chain” is more popular (Dommisse and Oosthuizen, 2004). The purpose of the value chain model, according to Porter, was to “systematically examine all the activities a firm performs and how they interact” (as cited in McPhee & Wheeler, 2006).

Sheehan and Foss (2009) undertook to examine the intellectual underpinnings of the theory Porter laid out in Competitive Advantage. They note Porter’s proposal that the true value of the firm was not its products or services, but the aggregate value of the chain of individual activities that went into the production process and the only way to identify a means of identifying potential sources of competitive advantage was to examine the firm in terms of these activities. They summarized the key characteristics of Porter’s activity-based model.

The unit of analysis was the activities the firm performed. The value chain focuses on the business or industry level. Activity drivers — cost and value drivers — play a key role. Activity drivers are the factors that are the firm can influence in order to position the firm as either low cost or differentiator compared to one’s competitors. Activities were categorized as either primary or supporting activities. Primary activities were defined as those which directly create customer value. Primary activities are related to production and sales of the product, delivery of the product, and after-market sales (Value Chain, 2005).

Structure

Primary activities

Inbound logistics comprises those activities involved in receiving, storing, handling, and distributing materials to the manufacturing or operations department. Manufacturing activities include those activities involved in converting the inputs received into the final product. Outbound logistics activities are those activities which are involved in the shipping, storage, and final distribution of the end product. Marketing and sales activities are those which are aimed at persuading the customer to buy and pay for the product, e.g., advertising, promotion and pricing. Finally, service activities include all activities concerned with maintaining or enhancing the value of the delivered product such as installation and repair services (Value Chain, 2005).

Supporting activities

Support activities serve to enhance the value (create added value) already created by the primary activities. Support activities include corporate structure, human resources, technology development, and purchasing. Corporate structure includes those activities related to management including planning, financial and accounting, legal, public relations, and quality management. Human resources activities include recruitment and hiring, training, and pay and benefits. Technology development involves R & D functions such as new product development and design. Purchasing encompasses activities relate to the procurement of supplies and raw materials.

The model’s popularity

Porter’s model is indisputably popular. Ormanidhi and Stringa (2009) examined Porter’s model in comparison to several other strategies: Structure-Conduct-Performance, the New Industrial Organization and Game Theory, the Resource-Based Perspective, and Market Process Economics.

The authors cite as proof a study that found Porter’s Competitive Strategy referenced in nearly half of the articles published in the Strategic Management Journal from 1986 to 1990. They believe Porter’s model is a most apt methodology for competitive analysis for several reasons. Porter’s model is most suitable because of its well-defined structure; it provides an analytical framework of definite criteria. Porter’s value chain model is practically suited for empirical analysis because it facilitates the comparison of firms and analysis of their competitive performance. Another reason Ormanidhi and Stringa mention for their preference of Porter’s model is its conceptual clarity; its terminology is consistent and easily understandable. Furthermore Also, Porter’s model complements other strategies such as game theory and the resource-based model. The last reason is inherent in Porter’s definition, that is, it is a generic strategy that is sufficiently general that it is applicable to various types of industries such as service and manufacturing firms.

Manufacturing

White and Pearson (2001) proposed in a study of the manufacturing value chain using the JIT concept and technological advances related to systems integration, the establishment of customer service levels on par with overall management objectives in order to improve organizational performance. They used Porter’s value chain model to demonstrate how the application of JIT systems throughout the manufacturing process enables the organization to integrate its activities in a continuous improvement process. In each stage of the Porter model, primary activities and support activities, the authors illustrate how the application of JIT techniques can optimize the manufacturing process.

Retail

Dommisse and Oosthuizen (2004), utilized Porter’s model in a study of the U.K. retail life insurance industry and introduced an evolutionary a concept referred to as value chain deconstruction which, they say, is gaining acceptance. Based on Porter’s model, value chain deconstruction theory is largely a result of the proliferation of new technologies and regulatory measures. Analysts, they declare, have observed components of the traditional value chain fragmenting to form new or merge with other industries. This relatively new, conceptual model’s main advantage, according to the authors, is that it “clearly highlights the areas in the value chain where the traditional strategies of differentiation, cost leadership and focus can be applied (p. 18). Thus, Porter’s model persists as the foundation of new and emerging concepts of strategic management.

The field of strategic management is complex and various definitions have been proposed based on the different aspects of organizational infrastructure. One means of organizing the numerous schools of thought was proposed by Mintzberg, Ahlstrand and Lampel (as cited in Sadler, 2003, p. 15) who described three major groups labeled the Prescriptive, Descriptive, and Configurational Schools. Michael Porter, renowned scholar, author, advisor, and recipient of a myriad of rewards for his work, laid the foundation of the Positioning School, which falls into the Prescriptive Group.

Porter’s is best known for the theories illuminated in his 1980 work Competitive Strategy: Techniques for Analyzing Industries and Competitors in which he presented his Fve Forces Model — five elements that affect an industry’s profitability, and his generic strategies which are intended to counter those forces. In The Competitive Advantage: Creating and Sustaining Superior Performance, published in 1985, Porter developed his Value Chain Model, a framework for activity-based competitive analysis of a firm.

These two monumental works have influenced academia and management since their inception. Widely popular and broadly used, these prescient theories have influenced strategic management philosophy the world over. Across the spectrum of industry types, from Japan to Europe, the impact of Porter’s works is indisputable. Undoubtedly, Michael Porter’s influence will continue to be felt in the halls of business for years to come.