Lecture Date:
Date: 18 Jan 2007
Prof: Mr Kuldip Kawatra
Recommended Books
1. Strategic Management: by John Pearce II and Richard B Robinson (to be used as a Text Book)
2. The Strategic Process, Concepts and Contexts: by Henry Mintzberg and James Brian Quinn
3. The Strategy Safari: by Henry Mintzberg
In addition, there are as many as 12 more books which are recommended for reading. Quite a few of them are authored by Mr Michael Porter.
Additionally, Titanic Shift and Rule of Three by Mr Jagdish Sheth are also recommended for reading. Rule of Three is a book which propounds that a company should strive to be among the top of three in its business, else, it should quit.
List of Topics
1. Strategy – An introduction
2. Components and Hierarchy of Strategy
3. 5 “P”s of Strategy
4. Business Strategy, BCG Matrix
5. Factors influencing competitive success
6. Industry analysis. Michael Porter’s 5 Forces and three generic strategies. Value chain analysis.
7. Strategic Management
8. Why Strategies fail?
9. Change Management
10. Entrepreneurship and Strategy
11. Strategy and Competitive advantage of Diversified companies
12. Competitive strategies of Declining Industries
13. Vertical Integration and Diversification
14. Global Strategy
15. Entry Strategies. Strategic Alliances
16. Mergers and Acquisitions
List of Cases:
1. The fundamental of Strategy Formulation
2. The case of counter strategy
3. Cultural Concerns
4. The case of strategic acquisitions
5. Change: To be or Not to be
6. The case of vendor development
7. Gramophone Company of India: The Digital Challenge
8. Wal-Mart competing in the Global Market
9. The General Electric
10. Richard Branson & the Virgin Group of companies
This is a university paper and therefore requires comprehensive study. Subject requires special focus since boundaries of this subject are not well defined.
Why is this subject important for every business manager?
The first fundamental of business is to survive. It is euphemistic way of saying that business needs to make profit. Any business not making profits is sure to sink. And in order to survive, business needs to grow constantly. Gone are the days of static business where a business could survive without substantial growth. Your neighbourhood Kiranawala is no more secure in his small shop. He is being threatened by Reliance, Subhiksha, Bharti-Walmart and the Mega Malls mushrooming like Pan shops every where. Your decades old family tailor’s business is being usurped by the mega branded apparels. Thus, to be able to survive in this globalising market, the business needs to be able to grow.
In the business environment that is prevailing and forecasted to unfold over the next two decades, every business, however big or small, is threatened by the competition. Even Reliance is scared about Wal-Mart’s entry and is advancing rollout of its retail ventures. While there is always the first mover's advantage, in the end it will be business strategies which will differentiate between successful and failed business.
Good strategies help in achieving the objectives. It reduces the cost, improves the profits and provides competitive advantage which are so vital for success of any business.
Business Growth Models
1. Organic Growth – Growth of existing business by building additional capacities from raw factors of production as against growth by procurement of readymade capacities through mergers, acquisitions and takeovers.
2. Inorganic Growth –
a) Acquisitions
b) Mergers
c) Takeovers
d) Amalgamations
Growth Involves –
1. Managing the “Present” (Market/Competition) – Irrespective of the future plans, every company needs to grow its present market share. According to “Rule of Three” by Dr Jagdish Sheth, a company needs to be in the top three or retire.
3. Managing “Future” (Tomorrow’s Competition) – Many greatly successful companies have sunk and been obliterated because they failed to manage the Future. They did not invest timely into technology, cost management, productivity, etc, and were wiped out by the new competitors who came with better and/or cheaper products. (The once thriving lock industry of Aligarh was wiped out by the cheap and better quality Chinese imports because they failed to invest in quality and cost of their locks).
2. Selectively Forget the “Present” – Between managing the Present and the Future, is the requirement to Selectively Forget the Present. Few successful companies have the stomach to come out of the cosy comforts of present success and invest into the uncertainties of future. (AT&T was the largest land line phone company in the world with its business spanning whole of American and even Latin American continents. It was first to conceptualise the idea of mobile phone as early as 1980s but never implemented it. There were many reasons as to why the company did not launch the mobile phone business. Primary one was that the company could not disassociate itself from the present ie the success of its land line business. Second was the Ernst and Young report which forecasted demand of only 90,000 lines per year. Such gross error in estimates happened because of wrong methodology of market survey).
In order to selectively forget the Present, it is essential that an ownership of new project is established. Therefore, setup a separate project team delinked from present business and reporting only to the CEO. Similarly, delink HR department from hiring the people for project team. Their old mind set will not allow hiring right kind of people for project. Delink the evaluation/appraisal process as well; since there will no profits, negative ROI and so on….. for a few years. Even provide a separate financial umbilical chord since Finance Department is often stingy about releasing finance timely and adequately for new unproven products.
While managing future, one needs to manage three critical unknowns –
1. Consumer Needs – It is biggest business challenge to forecast what customer will need in future. And biggest threat is that a competitor may launch a better (next generation) product before or shortly after your launch. AT&T lost its numero-uno position because it failed to gauge customers’ need for mobile phones.
2. Growth Potential – What is the market potential for a particular product? AT&T did not launch the mobile phone because Ernst & Young failed to correctly assess the market potential.
3. Threat of Low Cost Technology – Newer Designs/features, newer materials, newer processes and lesser cost are the challenges which are being thrown regularly at every producer. Once a particular production process has been installed, it is often not possible to switch over to another process without incurring huge expenses. While the new entrants come with advantage of newer technology, oldies are saddled with outdated designs and high production cost/lower quality technologies. Unless the plant has been deeply depreciated, it is difficult for old player to match the cost and therefore pricing structure of new entrants.
What is the key purpose of Strategy Formulation?
Strategy is aimed at creating sustainable competitive advantage.
Definition of Strategy –
Strategy is a fundamental pattern of present and planned objectives, resource deployment and interactions of an organisation with markets, competitors and environmental factors.
In Simple terms – Strategy is the action plan aimed at achieving sustainable competitive advantage.
Components of Strategy –
1. Scope – A business may have several segments and each segment has several dimensions; Finance, Production, Marketing, HR, Distribution, Advertising, ………… Like ITC starts from its primary business of cigarettes and goes into paper, greeting cards, rural retail, hotels and so on. Similarly, Hindustan Lever has its presence in 100s of the personal care products. Which segment of the above is your focus? Scope refers to the business or activities of a business where you wish to take advantage. Further, scope of each business needs to be decided; like, in hotel business, whether the company wants to be in the budget hotel segment or executive segment or in the luxury segment.
2. Mission, Goals and Objective – Mission Goals and Objectives need to be clearly identified. What is the objective of strategy? What do you want to achieve? Do you want to increase the profitability? Or, do you want to increase the market share? Or do you want to reduce the competition? Even Profit is not always the motive. Some times public welfare may be the objective.
3. Deployment of Resources – Based on the Mission, Goals and Objectives, resource deployment is decided.
4. Developing Sustainable Competitive Advantage – The plan is formulated which will give the company a sustainable competitive advantage which is the core purpose of strategy formulation.
5. Synergise – Take advantage of various synergies available. Synergy is all about creating a sum which is more than arithmetic total of its parts.
Strategy Formulation is done at three levels –
1. Corporate Level – Corporate Strategy
2. Strategic Business Unit (SBU) Level – Business Strategy
3. Functional Level
At each level of business, a strategy needs to be formulated, from macro level to micro level.
5 Ps of Strategy
1. Plan - Plans are the intended set of the actions to be executed in future. Often plans evolve from the patterns of the past. However, for an effective strategy, the plans should have a disconnect from the present.
2. Pattern – Patterns are typical progression characteristics of business environment like market growth, customer behaviour and response, etc.
3. Positioning - Positioning is about locating products in particular markets to achieve competitive advantage.
4. Perspective - Perspective is about an organisation's culture - its way of doing things. Tata, Infosys and Wipro would prefer to forego some profit in favour of following business ethics and corporate governance. Some other business house will probably have no qualms in burying all ethics below their profit motive. Strategy will be drawn accordingly.
5. Ploy - Ploy is a specific manoeuvre intended to outwit a competitor.
B T : CASE STUDIES
The Fundamentals of Strategy Formulation
SYNOPSIS
"Do we need a strategy? As an automotive ancillary, we have operated for nearly 15 years without one. Business has been good, our linkages with our customers have been strong, technology and funds have never been a problem since dedicated suppliers like us are not easy to develop. We continue to link our schedules, our costs, and our quality standards with those of our buyers. But, yes, I can sense that there is a change taking place in the industry. Post-liberalisation, a realignment has begun, with the emergence of Tier-I, Tier-II, and Tier-III suppliers. Without your own technology, it is difficult to reach the top of these tiers. Moreover, it is difficult to compete with global suppliers without investing in scale. Everybody in my company is aware that the external environment is changing, but no one is able to fathom its magnitude. Naturally, we are not sure whether a supplier needs a strategy. If we do, how should we develop one? And should we articulate it? Or should it be kept a closely-guarded secret? Can we diversify without a strategy?" Vinod Abhayankar, the young CEO of the Pune-based Auto Components, was tossing the issue of strategic planning in his mind even as he addressed a meeting of the Young Presidents' Organisation. A BT Case Study.
OCCASION: Young Presidents' Organisation (YPO) Meeting
DATE: August 7, 1996
TIME: 4 p.m.
VENUE: The Carlton Chambers, Mumbai
PRESENT: Vinod Abhayankar, CEO, Auto Components; Lalit Desai, Chairman, YPO; Members of the YPO
AGENDA: The Need For Strategic Planning
Lalit Desai: Good evening, ladies and gentlemen. Let me begin by welcoming our guest speaker for today, Vinod Abhayankar, the CEO of Auto Components, which manufactures the Zebra brand of shock-absorbers. Founded by his father, Dhanvantri Abhayankar, in 1984, Auto Components now enjoys the status of being a preferred supplier to many of the Original Equipment Manufacturers (OEMs) in the Indian automobile sector. Vinod will speak about the problems he faced while implementing a strategy-planning process in the company. Vinod...
Vinod Abhayankar: Thanks, Lalit. I always look forward to these meetings of the YPO which, apart from being the country's only association of young CEOs, provides me with an opportunity to discuss the problems of managing a business I wish to correct Lalit at the very outset. We haven't implemented strategic planning at Auto Components; we are in the process of doing so. We are still grappling with two questions. First, do we need strategic planning at all? That's surprising since strategy is supposed to be high on every CEO's list of priorities. Second, how should the company formulate a strategy? Should it be based on Auto Components' present position in the industry? Or should we factor in the emergence of new forces in the future--such as technology, scale, and costs--and draw up a strategy in the light of their impact on our operations? I thought I could use this platform as a sounding-board, and fine-tune my own approach to strategic planning. Please feel free to interrupt me
It has been nearly a year since I took over as the CEO of Auto Components. I returned from the US in 1995 where, after completing my MBA, I worked in the Production Planning Division of a transnational. I was looking forward to a promising career, but chucked it in deference to the wishes of my father, who wanted me to return home to take over the family business. A technocrat, he has spent his life in the automotive sector and decided, in his mid-40s, to set up a company of his own. Auto Components started off as a captive ancillary unit for Sadgati Motors, then a fledgling four-wheeler manufacturer. Our initial capacity of 1 million shock-absorbers per annum has grown into 3.20 million units. Incidentally, the total output in the country is 21 million units per annum. However, the growth in the top-line has been erratic. There were years when Auto Components grew by 80 per cent; in others, the company registered a negative rate of growth Yes?
That is bound to happen when you are a component-manufacturer. A feeder unit's fortunes, invariably, move in tandem with those of its OEMs. Is there anything peculiar about the shock-absorber market?
Yes, there is. The thing is that there is no replacement market. Not only do most auto-ancillary units fare better than the automotive sector, they are also insulated from recessions because of the after market. Unlike most auto components, whose life is between 2 and 3 years, a shock-absorber can last for anything between 6 and 8 years. You can also re-condition a shock-absorber--a process that extends the life of the product by at least 2 years. At less than a quarter of the price of a new one, re-conditioning is cheaper than replacement. Of course, although the owners of premium vehicles will not opt for re-conditioning, we do not get volumes there. So, we are fully dependent on the OEM market.
As a manufacturer of shock-absorbers, are there any other market segments you can target?
No. Basically, the shock-absorber functions as a dampener of shocks resulting from the vertical vibrations of a vehicle. Its function is to absorb the jerks transferred from the wheels to the frames, thus ensuring a comfortable ride. Typically, each shock-absorber consists of 2 oil-chambers. Whenever a vehicle passes over an uneven surface, the movement of a piston-rod results in the displacement of oil, leading to the generation of a dampening force. Almost the entire output of shock-absorbers produced in the country is used by the automotive industry. Shock-absorbers are both technology- and capital-intensive--a big barrier for new entrants. Since the specifications are unique to each customer, their design is critical. A shock-absorber with only a few moving parts is considered to be better. Importantly, the quality of the raw material--bright bars--is crucial to the production of a quality shock-absorber. Again, there is little possibility of the unorganised and small-scale sectors making a beeline for this business because of these factors.
Incidentally, since 1991, we have had a collaboration with Sephantu, a Japanese component-manufacturer. We chose Sephantu because it supplies shock-absorbers to quite a few Japanese auto majors, some of which have set up operations here. In fact, this collaboration has helped us get new customers since Auto Components enjoys a preferred-supplier partnership with some of them. It has also placed us on a strong wicket as far as our future plans are concerned. It will now be easier for us to become a sourcing-base for both European and Japanese auto majors for their global operations--a possibility that we will examine shortly. I believe that only by becoming a part of the global value-chain can we become competitive.
Let me raise one question that we have frequently asked ourselves in the past 12 months: should we cater to other markets as well? I can cite the example of Sephantu, which has a capacity of about 1 billion shock-absorbers per annum. It also makes telescopic front-forks for two-wheelers, and has a bearings division manufacturing a complete range of bi-metal bearings, flanges, and washers. These bearings cater to the requirements of the railways, the marine, and the power industries. Sephantu looks at them as related diversifications, and sees nothing wrong in focusing on those segments too…
THE SWOT
STRENGTHS WEAKNESSES
• Captive Buyer Base Entrepreneur-Driven Culture
• Established Customer Links Single-Product Orientation
• Access to Technology Little Scope for Diversification
• Healthy Financials Absence of Core Competencies
THREATS OPPORTUNITIES
• Transnational Competition Expansion of User Industry
• Integration by OEMs Emergence of New Buyers
• Dependence on Few Buyers Global Sourcing Base
• Sense of Complacency Newer Technologies
You are now dependent on a solitary end-user industry, but have a captive clientele. All you need to do is to maintain the relationships with your buyers, work closely with them, and be an integral part of their value-chain. I can see your reservations about the need to evolve a strategy at Auto Components...
As Lalit mentioned, Auto Components enjoys a preferred supplier status with 5 leading OEMs in the country. We get technical and financial assistance from our partners. They encourage outsourcing, and some of their clients have become global sourcing-centres. We have access to their Total Quality manuals and Management Information Systems, like the Spider Web Charts. It is a symbiotic relationship, and both partners tend to win. When the market is assured, production is predictable, the customer-list is captive, and we have a single-product orientation, why do we need to plan 5 years in advance? After all, we will continue to enjoy the benefits of bonding. Auto Components can easily operate through Management By Objectives and annual budgets--as it has been doing in the past. Our planning schedules are linked to the plans of our customers. We don't need a separate strategic planning process at Auto Components …Yes?
It is worthwhile recalling the introduction of the concept of strategic planning in the West. The interest in strategy was caused by the realisation that the external environment was becoming progressively discontinuous with the past. Objectives and annual targets alone were no longer adequate as tools of managerial initiative. Strategy was important because a company needed direction in its search for, and the creation of new opportunities. You had to identify your core strengths as part of developing the business strategy...
Core has little relevance in a business like ours. That is, if you mean a unique attribute which straddles several segments, markets, and products. A two-wheeler company would view itself in the transportation business, and a petroleum company would categorise itself as an energy business. But there is no common core capability as far as our single-product business is concerned. There is no common thread I see that can link our present and future product-markets…
I think you are mistaken. Objectives represent the ends that the company seeks to attain. Strategy is the means to achieve those ends. It provides the roadmap...
I thought as much. That is why I took the next step: enlisting the help of an outsider. We short listed 2 consultancy firms, Strategic Consultants, a transnational company, and Transformation Consulting, a local firm, and asked them to submit proposals for formulating a strategy, and to help us implement it at Auto Components. Teams from both the firms have spent several hours with us, and submitted their reports. The contrast in their approach to strategic planning is striking…
How does your father view the need for strategy? After all, he was the one who built the company...
He is sceptical. He feels that strategy is fine for large corporations with diversified interests, but doesn't make much sense for Auto Components. He often says that nothing works better in business than gut-feel--his ultimate touchstone. The rest is all frills, serving no more than an ornamental purpose. I am less sceptical, and more open to the idea. I feel that it is imperative for us to know where we will be 5 years from now; it will help us work towards an objective. Once we have identified a goal, we can start building structures, systems, and an organisational framework that will help us achieve that goal. It is crucial to have the big picture. That is where the importance of strategy lies…
Aren't both these consultancy companies well-known for their work on strategy?
Yes. Strategic Consultants is headquartered in New York, with 32 offices across the world and over 500 consultants on its pay-roll. It enjoys a formidable reputation in strategy-formulation. What interested me was the fact that it has done substantial work on the automotive industry and has a senior partner, based in Frankfurt, who focuses exclusively on the auto industry. The distinguishing feature of Strategic Consultants' approach is an underlying belief that strategy must be based on present data--not future trends. It will identify for us those segments, channels, price-points, product-differentiators, selling-propositions, and value-chain configurations that will yield us profits. But the identification is focused strictly within the present framework of the auto components industry. Incidentally, the firm has made it clear that it will not be involved in the implementation process…
I am not very comfortable dealing with a consultant who stays away from implementation. What about the second firm?
The sheet-anchor of Transformation Consulting is just the opposite. It believes that the purpose of strategy is not only to enable Auto Components to compete today, but also to ensure that it remains competitive in a fluid market situation. The firm aims at reconfiguring the auto components sector to the advantage of Auto Components--not just maximising the company's profits.
Both the proposals I have received are well-structured and cover a wide canvas although I must mention that the fees quoted by them are quite high for a 3-month project. While Transformation Consulting has quoted Rs 12 lakh, Strategic Consultants has asked for a fee of Rs 17 lakh. The former says it will depute a senior partner and 3 associates, one of whom will work full-time on our project. Strategic Consultants will depute a principal and 2 associates on a part-time basis. But its offer is quite attractive since its partner will be flown in from Frankfurt for all the major discussions…
The fee is, indeed, high. But it isn't a major issue as long as the consultant delivers. My concern is more about the organisational approach of the 2 consultancies...
Strategic Consultants' approach is top-driven. It does not believe in involving employees at different levels in formulating a strategy. It forms a team consisting of 2 senior managers of the company and 2 of its consultants. The team lays down the strategy that, it thinks, is good for the company. That is quite in contrast with Transformation Consulting's approach, which is both top-down and bottom-up. It seeks the active involvement of employees, who are asked to define the kind of organisation they want their company to be given, of course, the changes that are expected in the future…
Strategic Consultants is too focused on the present while Transformation Consulting builds a vision for the future as part of its strategy. The latter's approach is a radical departure from the conventional route to strategy-formulation. It is the novelty of the approach that fascinates me...
Permit me to read out the relevant portions from Transformation Consulting's report: "Our methodology comprises 4 phases: Envisioning, External Analysis, Internal Analysis, and Action Plan. These phases will be implemented during the course of 4 separate retreats spread over 3 months at the company's holiday-home at Lonavla (near Mumbai), where all the senior managers of Auto Components will gather...
At the beginning of the one-day session on Envisioning, the lights will be put out in the conference-room for a minute to signify a disconnect with the past. Once the lights re-appear, the designated co-ordinator from Transformation Consulting will announce that it is 2003. Each manager will then be asked to imagine himself as part of Auto Components in the 21st Century, and talk of what the company will be as he, or she, sees it. Although the exercise will be structured, it will be informal and free-flowing to break the ice and loosen up people. Not used to looking beyond day-to-day operations, many managers are likely to fumble. But, at the end of the day, everyone will be comfortable with looking ahead into the future...
External Analysis, spread over the next 3 days, will be more focused. Managers will be asked for their perceptions about the customer, the competitor, and the macro-environment in 2003. They will be required to answer the following questions: who are Auto Components' customers? Are they local or global? What are the specific needs that they expect these products to fulfil? Why do they prefer Auto Components to other manufacturers? The competitor-analysis would seek to probe questions like: who are Auto Components' competitors? What are their cost advantages? What are their strengths and weaknesses vis-a-vis Auto Components? Why do customers buy these products? What is their brand equity? The analysis will examine the impact of technology, government policies, and cultural and demographic trends on the auto components industry. Mainly, the objective of Phase II will be to arrive at a summary of opportunities and threats for Auto Components in 2003...
Phase III, comprising Internal Analysis, will begin a month later, and will be spread over 4 days. Aimed at enabling managers to look inwards, the Internal Analysis will be split into Performance Analysis, and Strategic Options. The performance of the group will be measured both on financial parameters, like profitability, sales, and returns on assets, and on non-financial parameters, like supplier relationships, product quality, and customer satisfaction. The participants will, then, determine the strategic options available to Auto Components. This would involve reviewing past strategies to identify strategic problems, organisational capabilities, and constraints. Based on these findings, a summary of the strengths and weaknesses of the group will be arrived at.
The final part of Phase III will involve defining the core competencies of Auto Components, and updating a statement of vision. The last session will be used to determine the strategic plan to move Auto Components from 1998 to 2003. It will address questions like the core competencies the company should build, the product-market segments that it should focus on, and the buyer-and-supplier linkages it should leverage within the industry..."
There is a difference between the two approaches. Strategic Consultants' gameplan depends solely on the CEO's vision while Transformation Consulting's approach seeks the involvement of senior managers in obtaining a vision...
Transformation Consulting's approach to strategy is different from the conventional time-tested approach in many ways. I, for one, am wary of any approach that is untested. Traditionally, corporate strategic planning has been based on the present position of the company in the industry. There are a number of grey areas in this approach. Take the capsule on Envisioning, for instance. Very few middle-level managers, caught up as they are with routine operational issues, have the ability to look beyond the limited time-horizon of a year. That's my major apprehension…
More fundamentally, I am not sure if strategy-formulation can be a bottom-up exercise. A vision, for example, is always driven from the top. It is only when a vision needs to be articulated that the involvement of middle management becomes imperative. But, as far as envisioning is concerned, it has to be confined to senior management. This raises a second crucial issue: is there a need to document strategy? Personally, I feel that the strategy of a company should not be documented. Only then will it ensure confidentiality. As Strategic Consultants' approach points out, strategy should be confined to a handful at the top. It can never be an across-the-board initiative...
That is the way I feel too. But I am open to both opinions although, I must confess, I am unable to decide on which one to follow. I am aware that some companies link strategy to vision, but this linkage has not been well-documented. Strategy should be based on the realities of today; not the dreams of tomorrow. We have to make sure that we do not become the guinea-pigs for a strategy-formulation exercise.
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Figures in Rs crore
Is there a need for a strategy at Auto Components? Does a small company operating in a predictable environment need to formulate one? Can approaches to strategy be so conceptually different? Should Abhayankar go by gut-feel and, by using in-house talent, do what he believes is right for the company? Instead of spending time on documenting a strategy, shouldn't Auto Components just have an informal plan of action, governed by the intuition of its senior managers? Since the company has a team which knows its business better than any consultant, why should Auto Components bank on external ideas? Should strategy ever be documented?
READINGS
▪ Strategic Planning: What Every Manager Must Know; George Albert Steiner
▪ Strategy And Strategic Management; J.I. Moore
▪ Applied Strategic Planning: A Comprehensive Guide; Leonard Goodstein
▪ Business Policy And Strategic Management; Mark L. Sirower
▪ Chart Your Own Course: Strategic Planning Tools For Business Leaders; James C. Collins & Jerry I. Porras
▪ Creating Strategic Change: Designing The Flexible High Performance Organisation; William A. Passmore
▪ Fourth Generation Management – The New Business Consciousness; Brian L. Joiner
▪ The New Rules of The Game; James R. Eemshof & Teri E. Denlinger
▪ The New Strategists; Stephen J. Wall & Shanon Rye Wall
▪ Corporate Strategy; Igor Ansoff
Solution:
Let us first analyse various beliefs and assumptions of Mr Abhayankar before we start with the doubts, dilemma and indecision that he is facing:
Should it be based on Auto Components' present position in the industry?
Any growth strategy should be based on opportunities and threats that the market will present in future but duly moderated by strengths and weakness of the company at present. Thus, any strategy that is based totally on today’s internal and external environment without any heed to emerging trends of the future is sure to fail in the medium to long run. Real growth does not emerge from normal progression of the present but from the disconnects from the present. (Japan and America were both booming manufacturing power houses of 1970s and 1980s. They were the sunrise economies those days. American economy, though larger, was far behind Japan in competitiveness. Yet it continued to surge ahead through 1990s and 2000s while for Japan, these were the Lost Decades. Despite all the super refined productivity tools in place, hardworking and honest workforce with highest productivity and commitment anywhere in the world, Japanese economy is going through a recession. Why?
America spotted the opportunities lying with knowledge economy and created a disconnect by shifting its thrust from manufacturing to knowledge industry. Japan on the other hand was so deeply obsessed with its success in manufacturing sector that it refused to look into the future and kept trying to refine its production processes and quality further and further. Remember the basic fundamental of life. Most of the graphs are parabolic. Increase in any input will fetch you gains on the principal of diminishing marginal utility till it reaches zero after which there is negative return on increasing investment).
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Parabolic relationship between investment and ROI
Company’s Growth – Although the company grew by 220% over a period of one and half decades, not much comfort could be drawn from it. Its market share in domestic market was barely 15%. Thus, there was enormous potential for top line growth without even considering explosive growth in four wheeler market that was just beginning to unfold at that time.
Scope of Business and Diversification – Very few single product companies have been able to register spectacular growth. Diversified companies, be it Tata, ITC, Wipro or Reliance, have scripted much faster growth rate. Auto Components is apparently refusing to see beyond its nose. It has not even considered diversification. There are plenty of diversification opportunities available. To begin with company can make a bid for replacement market by establishing own facilities or appointing franchisees for shock absorber reconditioning the way many tyre units have done for retreading of worn out tyres or Maruti True Value scheme. Or, the company can opt for horizontal growth by encashing on existing goodwill as quality conscious company with current customers and diversify into other auto component businesses. In addition, company can also go for concentric diversification by diversification into technologically related products like tubular auto components, marine engine components, and non-auto engineering products.
Threats – Company is considering its future position secure under the assumption that the technological complexity of the product as well as capital requirement will keep away the new entrants. Its assumption may be true for local small scale sector but there are plenty of big players with enough technological and financial muscle are available who can enter the fray and spoil the party. Another factor that company has completed overlooked is the possibility to competition emerging from overseas in a market which was fast globalising. Thus, benefits of bonding can not be taken for granted.
Core Competency – Company has once again failed to identify its strength by saying that there is no common thread that links its present and future product markets. 15 years experience is a substantial competency in the auto ancillary field. As stated earlier, it can lead to diversification into various other auto components or non auto engineering products.
Distrust on Middle Level Managers’ Ability to Contribute in Evolving a Viable Strategy – Almost every one has streak for future planning. Only, people either do not get time to devote to such ideas or there is not enough incentive and encouragement to forward those brainwaves and thus get suppressed. Given the right ambience and impetus, they can resurrect. Transformation Consulting's approach of taking the executives away from present humdrum to holiday home in Goa for brain storming sessions is based exactly on this precept.
Envisioning and Strategy Formulation by Senior Management Only – It is true that envisioning and Strategy Formulation should be done by Senior Management or ideally by Chairman/CEO himself, but there is no harm in taking inputs from all and sundry. Once inputs are received, final strategy should be chalked by senior management.
Mr Abhayankar is suffering from decisional paralysis. He is completely confused as to what course of action he should take.
Gut feel is not the call of sixth sense as many people would believe. Gut feel emanates from long experience and well meditated analysis of all the known and unknown factors. Only, the thought process is no so well structured. And yet, going by the gut feel is not the right course of action in such a situation. Two things go against gut feel action in this case. First is the absence of experience in Mr Abhayankar and secondly, the pace of changes that were taking place in the business environment at that instant, made gut feel reaction a risky affair.
Whether a small company operating in a predictable environment needs a strategy?
The false notion of predictable environment has already been busted above. Auto Components’ competition is no more going to be limited to local companies only. In view of the liberalisation that was underway, global competition in the business was a certainty. Thus, company needed a strong strategy lest it got swept away by the multinational behemoths.
Can approaches to strategy be so conceptually different?
Mr Abhayankar’s bewilderment at conceptual divergence between two approaches to strategy formulation is truly bewildering. Strategies and “approaches to strategies” follow no predictable pattern and can be as diverse as one’s imagination goes. There are in any case always more than one ways of achieving a target.
Instead of spending time on documenting a strategy, shouldn't Auto Components just have an informal plan of action, governed by the intuition of its senior managers?
Although it would be ideal to document the action plan, it can be done away with in favour of an informal plan of action if it is not too complex. But plan of action, whether documented or informal, has to emerge from the long term strategy. Therefore, strategy formulation is inevitable.
Since the company has a team which knows its business better than any consultant, why should Auto Components bank on external ideas?
It is true that the company has experts in the field of its business. But their experience and knowledge is probably limited to existing ways of doing business. Their capabilities in the field of strategy development and business models appropriate for the then unfolding liberalised, globally competitive environment were untested. Secondly, old occupants develop a Tunnel Vision Syndrome. They can not see beyond what is existing and apparent. New people bring new ideas and therefore involvement of external people in any brainstorming session always pays. Also, strategy development is an art/craft and experience of particular business is a poor substitute for this art.
And remember, a guide who is willing to walk the distance with you is always better than one who tells you the path on the map. So, involve an external consultant, who is willing to work through the implementation of the strategy rather than one who will wash off his hands after handing you a 1000 page report written in Queen’s English and collecting his green backs.
Should strategy ever be documented?
Documentation of strategy should be avoided as far as possible. Ideally it should lie in the minds of top management for the sake of confidentiality. However, strategy is always a combination of two or more deeply correlated but seemingly independent course of actions. Each course has its own action plan which should be well documented so that middle and lower levels of management can implement it effectively. But when external consultants are hired, strategy also comes as a document.
Let us now examine the above case study from the perspective of Components of Strategy:
Scope – Mr Abhayankar has limited the scope of his business to just the current business. If he opts for in-house strategy building, the scope may remain limited to just that. Engagement of external consultants may widen the scope to include Horizontal, lateral or concentric diversification.
Mission, Goals and Objectives – These are often formulated by Scenario-Building. Scenario Building is the foundation stone of strategic planning. Future is uncertain and could take more than one possible course; some logical and other unbelievably dramatic. Scenario-Building process encourages people for out of the box thinking; to think about those dramatic turns in the future growth path. Many assumptions (critical unknowns) about the future of the company – future customer needs, changing industry structures, and the company's response to both--get answered in the process.
However, there is one pitfall that needs to be guarded against. Most people to tend to extrapolate the future as a logical extension of the present. Strategic planning's advantage lies in finding the discontinuity in the business environment in near future. Discover if there is one building up; and create one if there is none developing on its own. One who is prepared to take advantage of this discontinuity will secure the biggest competitive advantage. Such an approach would provide an auto-components manufacturer with critical insights into emerging supplier-buyer configurations. But to be able to achieve this, a thorough environment scan is essential.
Resource Planning/Deployment – Execution of any action plan requires deployment of resources. Availability of adequate resources, from money to men (5 Ms), is critical to success of plans. Many strategic plans fall flat since they omitted to pinpoint their resource requirements and therefore planning. It is vital that the organisational structure, finances, technologies, and alliances required to achieve the aspirations spelt out in the strategic plan be clearly spelled out.
Resources assume even more importance when there is a discontinuity. A discontinuity often calls for resources that are scarce and mustering them is the first challenge during plan implementation phase. (BPO/Call Centre boom demanded English speaking educated youth which China and many other low wage countries do not have in adequate numbers. Off late, even India has begun to feel the shortage. But we still have plenty of non English speaking educated youth. Considering this resource base, some entrepreneurs have created KPO (Knowledge Process Outsourcing – India based scientific and social research). This is a discontinuity that Indian entrepreneurs have created).
Developing Sustainable Competitive Advantage – The eventual aim of entire strategic planning is to have a competitive advantage. An in-depth understanding of your competitors--their visible performance and their less-visible management practices--is important. Competitive analysis enables a company to look for ways in which it can best position itself not only to exploit its inherent strengths, but also to attack the weaknesses of its competitors. Minimise your own vulnerabilities and attack the weaknesses of competitors.
Another important part of developing Competitive Advantage is Gap Analysis. Gaps are difference between future requirements vis a vis organisation’s capabilities. Out of the possible series of gaps that will emerge from scenario building and SWOT analysis, it is advisable to concentrate only on the few that can provide maximum leverage (Rule of 80:20). This is important from the point of view of focus.
Next important part of development of Sustainable Competitive Advantage is effective implementation. Unfortunately, implementation of a new idea is inherent strength of only few organizations/people. So, any key strategic initiative, especially discontinuity, should be treated as a new project, and assigned to independent project leaders at various levels of implementation. Apply the strategy of “selectively forget the present”. Disconnect HR Department from selecting people for project team, disconnect finance department from funding this project, disconnect HR Department from appraisal process of project people and so on. Don’t allow non-believers anywhere near the project. Guard tightly against development of vested interests in the organisation.
CAPABILITY Vs COMPETENCY Vs CORE COMPETENCY
Capability is what you can do (as well as others). Competency is what you can do better than most; and Core competency is what you are most proficient at.
Let us see the core competencies of some of the companies
Amul – Advertising (Copy based on recent high decibel news/event)
Reliance – Project Mgmt (Fast and economical execution)
Sony – New technology product development
Distinctive/Strategic Competency – A competency which gives you edge over your competitors. Maruti’s distinctive competency is in manufacturing entry level cars. Despite close of 100 models of various cars launched, Maruti 800 still retains over 50% of the total car market. Maruti has not been so successful in other segments. Its Zen and Wagon R models were successfully challenged by first by Daewoo and then Hundae with Santro model.
Core Assets – Your best assets are your core assets. Take the case of Wipro Ltd. It is a multibusiness highly diversified company. It has software, lighting, Oils, etc. But their software division is their core asset.
Distinctive Assets Distinctive Assets – Distinctive assets are those assets which differentiate you from your competitors and give you competitive advantage. Assets need not be physical/tangible. They could be intangible as well. Brand Value is one such asset and Tata group has unmatched strength in that. HLL’s and ITC distinctive assets are their distribution network. Toyota’s distinctive asset is its production system where productivity is highest in the world among all car makers.
PORTER’S BUSINESS MANAGEMENT STRATEGY
(Porter was originally an engineer, then an economist before he specialised in strategy)
Michael Porter’s business management strategy is a three step process: -
a) Assessment of problem,
b) Planning to fight the problem and then
c) Application
These three broad steps of Porter’s business management strategy are christened as: -
(I) Michael Porter’s Five Forces Model (to identify the profit limiting forces)
(II) Michael Porter’s Generic Strategy (Plan to fight these forces and meet the challenges)
(III) Michael Porter’s Value Chain Analysis (to build competitive advantage which is the core of any strategy).
(I) Porter’s Five Forces Model
This model was developed by Michael Porter in 1979. It uses concepts developed in economics to derive 5 forces that determine the attractiveness of an industry/market. It is also known as FFF (Fullerton's Five Forces). These are the forces that have maximum impact on company’s ability to make a profit. A change in any of the forces will require a company to re-assess its business.
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A graphical representation of Porters Five Forces
These five forces are: -
1. Bargaining power of customers,
2. Bargaining power of suppliers,
3. Threat of new entrants,
4. Threat of substitute products, and
5. Level of competition in an industry. (Rivalry among existing players)
Now let us see when, why and how the 5 forces affect the profitabitability of a company: -
1. Bargaining Power of Customers
a) Buyer Concentration to Firm Concentration Ratio – In simple terms, this is demand supply gap. When there is oversupply of product, and many competitors for a small group of buyers, buyer has option to switch to other supplier and there is tendency among suppliers to woo the customer through price discounts, gifts etc to garner larger share of the market.
b) Bargaining Leverage – Many customers have leverage over suppliers due to various reasons. There could be host of reasons, like political clout, muscle power, status, locational advantage, etc. Sugarmills have this advantage while buying sugarcane from farmers. Farmers are unable to transport sugarcane to other factories because only one mill is permitted in specified area. Mills often pay the farmers after months and even less than govt rate. Those who insist immediate payments are denied sale. Similarly malls insist on higher discount on MRP (approx 40% of MRP).
c) Volume Buyer – Customers who are large buyers are often able to bargain better prices. Like almost 50% of P&G’s world wide sales comes from Walmart stores. Therefore Walmart has huge bargaining power with P&G. (For that matter, with any supplier)
d) Buyers’ Switching Costs relative to Firm Switching Costs – Some times there is substantial cost involved in switching from one supplier to another supplier. Take the cost of telephones. The cost and efforts involved in informing all your contacts of change in your number is huge and is the biggest deterrent in switching your cell number. Thus, once a mobile phone company is able to retain a customer for about 6 months, he is a captive customer thereafter. But once number portability is allowed across telecom service providers, the churnrate among mobile phone companies will increase substantially.
e) Buyer Information Availability – Information is Power. Once the buyer is aware about inside information of the company, like production cost, customer base, capacity utilisation, material usage, etc, he will bargain from a position of strength. If he knows that you have additional unutilised capacity, he will ask for additonal supplies at marginal cost + small profit. Similarly, if he comes to know that your production cost is very low, or you have inventory build up, or your sales are down, he will bargain hard for higher discounts.
f) Ability to Integrate Backwards – If the customer has capacity and capability to integrate backward into your business, he will bargain harder with the threat that you will not only lose your business from him but precipitate another competitor as well.
g) Availability of Competitive/Substitute Products – Any one who has easy and at par cost or cheaper access to competitive/substitute product is a tough customer. Take instance of soft drinks. For coke and Pepsi, besides each other, a host of substitutes are available starting with water (yes! mineral water and even plain cold matka water) to beer, lassi, Nimbu Pani, Jaljeera, etc. That is why their advertising spend is among the highest in all sectors.
h) Undifferentiated Product – If a product is undifferentiated, a customer will have no difficulty in switching over to another supplier.
i) When His Profit Margins Are Low - Bargains hard to keep his margin intact.
j) When product is unimportant to him.
2. Bargaining Power of Suppliers
a) Supplier Switching Costs Relative to Firm Switching Costs – Reverse of above.
b) Degree of Differentiation of Inputs – If a supplier has a well differentiated product, he can command a premium on price. Customer has little choice but to be a victim of such a suppliers fancy.
c) Absence of substitute inputs – If a product does not have substitutes and there are not multiple suppliers with over capacity of that product in sourcing area, such suppliers will command premium on their product
d) Supplier concentration to firm concentration ratio
e) Threat of forward integration by suppliers relative to the threat of backward integration by firms
f) Cost of inputs relative to selling price of the product
g) Insignificance of volume to supplier
h) Cartelisation by Suppliers – OPEC is an example which keeps adjusting production to keep crude prices artificially high.
3. Threat of New Entrants
a) Existence of Barriers to Entry – Any kind of barriers like cartelisation by existing manufacturers, govt regulations (licences), natuaral barriers, etc.
b) Capital Requirement – Capital intensive industries have relatively lesser threat of new entrants since very few people can afford to invest that kind of capital.
c) Economies of Scale – There are some products which afford huge economy of scale. While the existing players would have slowly grown to build adequate market share/demand, new entrant would have to start with similar capacity without any demand/market to be able to produce at competitive cost. Maruti could slowly build a network of its service stations and spare parts vendors across India. Any new entrant can not afford to build that kind of network unless they have that kind of density of vehicles on roads and therefore are finding it difficult to compete.
d) Brand Equity – If there is a well entrenched product in the market, it hard for any new product to find a market for itself and therefore discourages new entrants.
e) Switching Costs
f) Access to Distribution – Distribution network is the trump card in the hands of a company. HLL, with its reach to the remotest corner or the country, enjoys that advantage and poses a barrier to the new comers. Many companies, including HLL are known to buy out all the prime shelf and advertising hoarding space ahead of launch of a competing product to black out them in the market.
g) Absolute Cost Advantages – If a firm is enjoying a cost advantage due to any reason, may be captive mines, or pit head location (so low transportation cost) or cheap captive power generation in a power intensive product like metals, it poses hurdle for new entrants.
h) Learning Curve Advantages
i) Expected Retaliation
j) Government Policies
4. The Threat of Substitute Products
a) Buyer Propensity to Substitute
b) Relative price Vs performance of substitutes
c) Buyer switching costs
d) Perceived level of product differentiation
5. The Intensity of Competitive Rivalry
a) Number of Competitors – Higher the number of competitors, higher the struggle for the market share. Bigger group also brings in ego clashes leading to indiscrimanate poaching even at otherwise prohibitive costs.
b) Industry Growth Rate – This happens in later stages of product life cycle when product demand begins to stabilise or even decline after peaking while new entrants continue to set up additional capacities without observing the life cycle stage of the product, leading to overcapacity
c) Intermittent Industry Overcapacity – It is again a common phenomenon. Many people who catch the cyclic demand late end up adding capacity when demand begins to ebb. Thus, there is huge overcapacity during lean demand period. This phenomenon is most prominent in agriculture. One season, there will be scarcity of, say, pulses and therefore very high prices. Attracted by the good prices, there will be increased acreage under pulses cultivation. And then due to oversupply of pulses, the prices will not be adequate even to recover the costs. Having suffered huge losses, farmers will switch the crop next year and there will be scarcity of pulses once again and the cycle continues.
d) Exit Barriers – If exist routes are not available, existing players will continue to attempt to garner larger market share through price cuts or discounts etc.
e) Diversity of Competitors – Rivalry becomes intense with diversity of competitors. Say, a product is being supplied by manufactures from across the world (take for instance BPO services). Each supplier has a different cost advantage, different problems, different govt policies, and so on. On the other hand suppliers have no common forum to meet and plan their strategy against arbitrary damaging actions by individual player.
f) Informational Complexity and Asymmetry increases distrust and rivalry.
g) Thin Profit Margin Products – Rivalry is intense when profit margins are already thin since only way out to increase profits is by increasing sales. (Imagine the intensity of competition in salt business. Consumption can not be increased in any way. Probably this is the only product in the world whose consumption can not be increased. Profit margins are thin. (Govt would not want a second Dandi March by a new born Mahatma). What growth strategies can the salt manufactureres follow but to snatch each others’ market share? (But Catch salt did it by differentiation and packaging)
h) Lack of Product Differentiation – If there is no real avenue for product differentiation, like in case of soft drinks, rivalry increases.
Though not supported by all, some argue that a 6th force should be added to Porter's list to include a variety of stakeholder groups from the task environment. This force is referred to as "Relative Power of Other Stakeholders". Some examples of these stakeholders are governments, local communities, creditors, shareholders, employees, & so on.
Not every industry faces all the forces. Some industries face as low a two while some other might face all the five. Again the intensity of individual forces will vay with industry. Your job is to identify the forces and find a position where the sum total effect of all the forces is minimum.
Criticism
Porter's framework has been challenged by other academics who have raised objections to underlying assumptions in the model, viz -
a) That buyers, competitors, and suppliers are unrelated and do not interact and collude
b) That the source of value is structural advantage (creating barriers to entry)
c) That uncertainty is low, allowing participants in a market to plan for and respond to competitive behavior.
(II) Porter Generic Strategies
Michael Porter has described three general types of strategies that are commonly used by businesses. These three generic strategies are defined along two dimensions:
a) Strategic Strength is a supply-side dimension and addresses the core competency of the firm: Cost Leadership or Product Differentiation. Please remember that the two strengths are exclusive to each other. Cost leadership and product differentiation do not go hand in hand. Either a company goes cost leadership way or opts for product differentiation. Vi-John (Barbers’ favourites) and Gillette range of saving products are the examples of two strategies.
b) Strategic Scope is a demand-side dimension and looks at the size and composition of the market you intend to target.
In his 1980 classic Competitive Strategy: Techniques for Analysing Industries and Competitors, Porter lays down the three best strategies. They are
a) Cost Leadership,
b) Product Differentiation, and
c) Market Segmentation (or Focus).
While first two are standalone strategies, and exclusive to each other, Market Segmentation, as a strategies, can not stand on its own feet without supposrt of one of the two other strategies. It complements both the other strategies and is necessarily an accompaniment. It has to be adopted irrespective of cost or differentiation leadership. Only scope will differ in two cases.
Combining a market segmentation strategy with a product differentiation strategy is an effective way of matching your firm’s product strategy (supply side) to the characteristics of your target market segments (demand side).
Empirical research on the profit impact of marketing strategy indicated that firms with a high market share were often quite profitable, but so were many firms with low market share. The least profitable firms were those with moderate market share. Porter’s explanation of this is that firms with high market share were successful because they pursued a cost leadership strategy and firms with low market share were successful because they used market segmentation to focus on a small but profitable niche market. Firms in the middle were less profitable because they did not have a viable generic strategy.
1. Cost Leadership Strategy
This strategy emphasizes efficiency. The product is often a basic no-frills product that is produced at a relatively low cost and made available to a very large customer base (It is assumed that benefits of low cost production are passed on to the customer in the form of low prices. But it does not happen everytime. In many cases company continues to charge market rate of product despite substantially low cost of production and uses this advantage strategically). Maintaining this strategy requires a continuous search for cost reductions in all aspects of the business.
2. Differentiation Strategy
Differentiation involves creating a product that is perceived as superior to its competitors. The unique features or benefits should provide superior value for the customer if this strategy is to be successful. Because customers see the product as unrivaled and unequaled, the price elasticity of demand tends to be reduced and customers tend to be more brand loyal. (Pears Soap (Glycerine based transparent) and Dove (with moisturising cream) are two products which have maintained their differentiation for a very very long time). This can provide considerable insulation from competition. However, there are usually additional costs associated with the differentiating product features (both glycerine and moisturising cream are expensive ingredients and this could require a premium pricing strategy.
To maintain this strategy the firm should have:
a) Strong research and development skills
b) Strong Product engineering skills
c) Strong creativity skills
d) Strong marketing skills
e) Focus (Segmentation) Strategy
In this strategy, the firm targets a few selected markets, be it demographics or geography or any other parameter.. It is also called a focus strategy or niche strategy. It is hoped that by focusing your marketing efforts on one or two narrow market segments and tailoring your marketing mix to these specialized markets, you can better meet the needs of that target market. The firm typically looks to gain a competitive advantage through effectiveness rather than efficiency. It is most suitable for relatively small firms but can be used by any company. As a focus strategy it may be used to select targets that are less vulnerable to substitutes or where a competition is weakest to earn above-average return on investments.
(III) Value Chain
(Value Chain is a concept that was first described and popularized by Michael Porter in his 1985 best-seller, Competitive Advantage: Creating and Sustaining Superior Performance).
A firm is a bundle of activities. The activities can be broadly divided into two groups –
(a) Primary Activities – The activities for which the company exists. The activities that add value to the product.
(b) Secondary Activities – Peripheral or support activities.
The “primary activities” include:
a) Inbound logistics,
b) Operations (production),
c) Outbound logistics,
d) Marketing and sales, and
e) Customer Service
The “support activities” include:
a) Procurement
b) Human resource management,
c) R&D
d) Administrative
e) Infrastructure management,
Support activities are not specifically related to any one primary activity but span across all of them. The value chain framework quickly made its way to the forefront of management thought as a powerful analysis tool for strategic planning. Its ultimate goal is to maximize value creation while minimizing costs.
BUSINESS STRATEGY
Unlike Corporate Level Strategy which takes care of a Business House’s broad strategies, Business Level Strategy is strategy at the SBU level.
The classical BCG model (four quadrangles of cash cow, star, dog and Question Mark) is utilised to fine tune resource deployment plan.
Following factors help in developing competitive advantage
a) Distribution System – This is the strongest weapon in the armoury of market men. Any other marketing strategy can fail but this is hard to fail.
b) Research and Development
c) Field Strength
d) Assets
Five Rules to create competitive advantage –
a) .
b) . Michael Porter’s three rules
c) .
d) First Mover’s Advantage – Walkman and Windows are two products where the owner companies benefitted hugely.
e) Synergy Advantage – A sports goods manufacturing company can start sports garment business. Since the market is same, customers are same, distributors and retailers are also same, brand equity can also be encashed.
What is Strategic Competency?
It is defined as strength of company’s core competency Vs strength of competitor’s core competency
Strategic Competencies
1. Brand Equity – Brand Equity create “Image” assest as well as financial assets. It helps company to realise better margins on its products and achieve higher sales with lesser investment in marketing.
2. Creative Methods of Pricing – Some companies are capable of making the prices affordable for the customer. Shampoo bottles even in 50 ml bottles, was unaffordable for lower middle class segment girls. Shampoo sachets at Re 1/- per hair wash was like offering shampoo bottle on instalment payment plan. It brought this elite product within the reach of poor girls and created a huge market for the company.
3. Market Management – Market management is not same as marketing management. While marketing management is about reaching the minds of consumer and managing sales and distribution of the product, market management is about future planning by forecasting the market trends or quick reaction to changes in the market through product innovation, positioning etc. Planning cycles in yesteryears used to be pretty long. Long term plans used to be drawn with 5, 7 or even 10 years perspective. Such kind of time frame is unthinkable now. Markets have become volatile and planning cycles have shortened. Market Management involves following steps –
a) Develop Real Time Information System for collecting information not only from local market but from across the world. Even though a company may not be a global player, competitor might source his products from a foreign country at substantially lower cost. (Ganesh idols (made in China) during this Ganesh Chaturthi were being sold at one third the last years price. Who would have envisioned that China, a communist (atheist) would invade the Ganesh idol market? )
b) Developing sensitivity to information (useful information only).
c) Flexibility in Planning – Capability to change the plans at short notice in response to dynamic change in situation.
d) Online Scanning & Analysis of Information – There is veritable flood of information. Therefore, it is beneficial to scan and analyse the information online itself.
e) Proactive Approach – Company should have a proactive approach to market management. It should analyse and forecast market direction and take appropriate action.
Characteristic of Company Which Can Manage Market
1. Sensitive to Market
a) In-Out Organisation – Such companies scan the prevailing business environment and react to the changes that are taking place in the market.
b) Out-in Organisation – The company scans macro environment and changes its strategy proactively before the effects of changes in macro environment manifest themselves in market. The company is ready to take the advantage of changes in market when the time comes. There are companies which are even smarter. They manage the environment itself. They mould the environment according to their need. Take the case of Reliance. They laid out the cables across length and breadth of country for CDMA phone which was a WLL (Wireles in Local Loop – restricted area roaming) service. (This technology is much cheaper in installation and equally cheap in operation. Even licence fee was only a fraction of what GSM cellular services providers had to pay). After Reliance completed its cable laying and rolled out the services, restrictions on roaming for CDMA phones were suddenly removed and the service was offered in completition with GSM cellular phones.
c) Give Importance to Real Time Information Management – They are good at online analysis of information and action is taken immediately. Take the case of Walmart Retail Stores. Information about a product sold and billed is directly communicated to their central server where sales data is collated from all the stores and is analysed by computer. Depending upon sales pattern and current stock levels in various stores, order for supply is placed on the supplier automatically by the computer itself. Or, slow moving inventory from one store is shifted to other store.
d) Knowledge Management – Let us first understand difference between Information and Knowledge. Information is unorganised raw data, facts and figures. Knowledge is when this random data is organised in the mind in a structured and logical form to facilitate deductions/analysis/forecasts. In simple words, information is knowing what had happened or who had done it; Knowledge is knowing why did it happen and why did he do it; and Wisdom is knowing what to do to make the best use of what had happened. Thus, Knowledge is a mental aspect and very difficult to manage. Since knowledge lies in the minds of managers, many companies often call for brainstorming sessions/meetings where free flow of ideas and discussions take place and strategies are formulated. This is called knowledge management.
e) Capability to scan information online.
f) Entrepreneurial Thrust – The management should be quick at identifying the opportunities, arranging the necessary resources, building team and converiting it into a profitable business.
g) Global Perspective – Refer to Strategic Competencies. (Page 28).
h) Effective use of various marketing tools.
Process of Strategic Management (Strategic Mgmt Model)
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Strategic Management process begins after the Vision and Mission statement have been set. Vision and Mission statement actually indicate the direction of strategic management process.
Vision – Corporate vision is a short, succinct, and inspiring statement of what the organization intends to become and to achieve at some point in the future. Vision is intentions that are broad, all-intrusive and forward-thinking. It describes aspirations for the future, without specifying the means that will be used to achieve those desired ends.
In simple terms - Vision is the description of desired future form/state of the company. It is the dream of top management as to where it would like the company to be in future. It is a common folly to extrapolate the present into future. Drawing the Vision requires the top management to empty their mind of the past and present before they sit down for the purpose.
Once the Vision Statement has been drawn, it needs to be communicated to the employees. It is not enough to communicate just the Vision. Vision statement does not include the action plan, because it is meant for not only the company but the general masses as well. But it is a must to communicate the action plan for achieving those lofty aims to the employees. Else, it will lack the authenticity and belief of the people whose heart and soul is must for making it a reality.
Mission – Mission is the dream for the near future. It is a statement of what company wishes to achieve in the short term.
Strategy Management Process (Consists of Following Steps) –
1. Analysis of External (Macro) Environment – Macro environment is source of threats, opportunities & constraints and uncontrollable. Therefore, the strategy has to be drawn around those uncontrollables within the contraints imposed and opportunities offered by them. Macro Environment can be further sub-dived into following
a) Remote Environment (Global as well as Domestic)
i) Social
ii) Technological
iii) Legal
iv) Political
v) Economic
b) Industry Environment – Porter’s Five Forces model –
vi) Entry Barriers
vii) Suppliers Powers
viii) Buyers’ Power
ix) Substitute Availability
x) Competitive Rivalry
c) Operating Environment
i) Competitors
ii) Creditors
iii) Customers
iv) Labour
v) Suppliers
d) Socio - Cultural Environment
i) Demographic factors such as:
a) Population size and distribution
b) Age distribution
c) Education levels
d) Income levels
e) Ethnic origins
f) Religious affiliations
g) Housing conditions
ii) Attitudes/Belief towards: Materialism/capitalism/socialism, free enterprise individualism, role of family, role of government, collectivism, language, etc
iii) Cultural structures including: Religious beliefs and practices, consumerism, environmentalism, Work Ethics, Pride of accomplishment, diet and nutrition, etc.
e) Technical Environment
i) Efficiency of infrastructure, including: roads, ports, airports, rolling stock, hospitals, education, healthcare, communication, etc.
ii) New manufacturing processes
iii) New products and services of competitors
iv) New products and services of supply chain partners
v) Any new technology that could impact the company
f) Legal Environment
i) Minimum Wage laws
ii) Environmental Protection laws
iii) Industrial laws
iv) Union laws
v) Copyright and Patent laws
vi) Effectiveness of Law & Order enforcement machinery.
g) Political Environment
i) Political Climate – Type of govt (Capitalist/Communist/Democratic/ Autocratic/Monarchy/etc)
ii) Political Stability and Risk – What political stability relates to business is the stability of govt policies. In many countries like Japan, Italy, France, Germany and even in our own country, govts have changed but business policies of the govt have remained constant over the time. Political instability is serious when business policies change drastically with govts.
h) Economic Environment
i) GNP or GDP per capita
ii) Economic growth rate
iii) Inflation rate
iv) Consumer and investor confidence
v) Currency exchange rates
vi) Unemployment rate
vii) Balance of payments
viii) Future trends
ix) Budget deficit or surplus
x) Corporate and personal tax rates
xi) Import tariffs and quotas
xii) Export restrictions
xiii) Restrictions on international financial flows
Scanning these macro environmental variables for threats and opportunities requires that each issue be rated on two dimensions. It must be rated on its potential impact on the company, and rated on its likeliness of occurrence. Multiplying the potential impact parameter by the likeliness of occurrence parameter gives us a good indication of its importance to the firm. Let us see how Times of India has been affected by the changes in its external environment:
Demographic Changes – There is a change in readership of newspapers. The average age of newspapers readers have come down. TOI has responded to this demographic change with change in the content and presentation of its articles.
Social Changes – TOI has started with various supplements like Matrimonial, Property, Suburban Specials, etc
Technological – Paper is in colour, more prompt (even late hour news gets coverage due to faster printing technology, and more and more editions.
Economic – Lower prices
2. Internal Resource Analysis –Let us see how to evaluate our internal resources. We need to ask a few questions to ourselves -
a) Is it a distinctive Asset?
b) What is the life of resource? (Kodak company which had become a household name world over due to its photographic films and equipment business failed to see the end of this business due to advent of digital (filmless) photography. Companies in the business of non-renewable natural resources have to be specially aware of this fact).
c) Is your resource copyable? If it is, does it have copyright protection? If no then, it has no value because along with your launch it will proliferate.
d) What is your Brand Power?
e) What is the result of SWOT analysis?
3. Strategy Formulation – Once we know the external and internal environment (SWOT analysis) vis a vis our vision and mission, it is time to formulate the strategy. Strategy formulation is done on the basis of following principles
a) Cost Leadership
b) Product Differentiation
c) Market Segmentation (or Focus)
d) First Movers Advantage
e) Synergy
Company has to take a call as to which of routes to adopt.
4. Implementing the Strategy –
A bad strategy may still succeed if implementation is good but best of the strategies will not succeed if implementation is bad.
Above matter of fact statement sums up the importance of implementation phase. Strategy implementation is dependent on organisational strength. Following organisational factors affect the implementation:
a) Leadership
b) Organisational Structure – Flat/Project Team/Matrix/Hierarchical, etc.
c) Reward Systems – Appraisals and monetary and non-monetary rewards.
d) Functional Policies – Implementation/execution on the ground is done at the middle and lower manager levels. Thus, HR policies assume high significance. Implementation is dependent on incentives, employees’ motivation and commitment towards company which are shaped by the HR policies. Marketing policies also affect the implementation some times.
e) Is the organisation a learning organisation? Implementation in a learning organisation is always much better since lessons from previous implementations must have been used to strengthen the system.
Based on above requirements, you need to create an organisation capable of carrying out the strategy successfully in following steps:
a) Allocate necessary and adequate resources.
b) Create strategy supportive systems and procedures.
c) Create work culture conducive to strategy implementation
d) Install information storage and retrieval system.
5. Evaluation and Control System – In order to evaluate the performance, targets need to be set. An effective, accurate and prompt feedback system is essential so that any deviations from plan can be spotted in time and course correction applied. High performers need to be kept motivated through awards and rewards and low performers should be motivated or changed. If the need be fine tune/reformulate your strategy.
WHY STRATEGIES FAIL?
A strategy is impacted by numerous factors and most of them are uncertain. Some, like external factors, are uncontrollable. Such factors are forecasted and factored in the strategy formulation. Success is achieved when all or at least most forecasts turn out correct. However, if forecasts turnout to be way off the mark, strategy fails. Quite often, strategies fail because they were not implemented properly. Yet another time, a competitor comes up with a counter strategy (like ambush marketing done by Pepsi in cricket World Cup against Coca Cola). In addition, there are a host of other factors that also affect success of strategy –
a) Faulty strategy due to inaccurate/scanty data or assumptions or pure inaptitude of strategists.
b) Inadequate training/preparation/commitment/inaptitude of people entrusted with strategy implementation (generally line managers)
c) Faulty definition of business
d) Faulty Definition of SBU – Some times so much of independence is given to SBUs that they start competition with each other. GE CEO had once deliberately adopted this path hoping to spur company sales person to perform better.
e) Excessive Focus on Numbers – Some companies keep a tab on numbers, ROI, Sales, etc, but ignore soft issues like, people welfare, ambience, etc. Results are less than satisfactory in such situations.
f) Imbalance Between External and Internal Considerations – Internal resources of company are inadequate to meet the external challenges or exploit the opportunities that are presented. A company may not have liquidity or storage capacity to bulk purchase raw material and take advantage of huge discounts, which may have been a key element of the strategy.
g) Unrealistic Self Assessment – Over assessment is as dangerous as underassessment. Over assessment will lead to biting more than it can chew and underassessment will allow opportunities to pass without attempting to exploit them.
h) Insufficient Action Detailing – God lies in details. Many times only macro planning is done and nitty-gritties are left to be tackled on the spot. It may lead to costly delays or complete derailing of plans.
i) Poor management of Corporate-SBU Interface – Many top managers approve plans based on their of personal likes and dislikes of middle level managers rather than on the strengths of the proposal. Some others are swept by the glossy presentations. Resources may be denied to some needy SBU and instead allotted to SBU which can lobby well.
j) Conflict with corporate system and procedures
k) Faulty info systems.
CHANGE MANAGEMENT
Change management is a great challenge. Successful changes will lead to growth while failures can be catastrophic. One botched change felled the mighty British Empire. The change which failed and had most dramatic effect was introduction of bullet/cartridges with cow fat in British Indian Army in 1857, which became the genesis of India’s Freedom Struggle and eventual fall of the British Empire. Therefore, management of change is a vital element in a manager’s job.
In today’s fast changing world, CHANGE is the only constant. Change has always been there. But the rate of change that has been seen in the last two or three decades, has been unprecedented.
Many organisations (Static variety) were overwhelmed by the changing business climate and because of their failure to manage the change sweeping their sector, they lost out completely. Some have been wiped out of the corporate scene and many others are barely a shadow of what they were once upon a time. But there were some dynamic organisations also who took this all pervasive change as an opportunity and either changed themselves or managed the changing environment to keep them competitive.
Changes cannot be wished away. They are inevitable as the environment in which we function continues to change ceaselessly and we can ignore them only at our own peril. Change is affecting not only the new technology industries like software, healthcare, biotech, etc but is also engulfing the old economy companies like banking, insurance, retailing, etc.
Changes can become necessary due to variety of reasons.
Necessity of Change
a) Technological upgrades
b) Competition
c) Change in Customers’ tastes and preferences (fashion)
d) Social Changes
e) Political Environment
However, changes are not easy and there is always opposition to change. If due care and diligence is not taken while effecting the changes, its opposition can lead to catastrophic results as cited in the beginning. In a typical factory environment, it can lead to lower morale, loss of productivity and even strikes. When the change comes calling, old sources of competitive advantage suddenly disappear and the company is required to create new set of competitive advantage. Building and sustaining competitive advantage amidst rapid change requires the organizations to learn/adopt new technologies, explore new markets and devise new ways of managing. However biggest challenge in managing change is managing personnel.
Reasons for Opposition to Change (Singularly or in Any Combination)
a) Fears of
i) Unknown
ii) Economic loss
iii) Perceived inconveniences
iv) Loss of power/status
b) Need to learn new skills/knowledge
c) Insecurity
d) Social/Peer Pressure
e) Resistance from groups
f) Organisational Culture
g) Lack of incentives
While some of the reasons/fears may genuinely affect the people adversely, in most cases they are unfounded. Take for instance, the intense opposition to introduction of computers in banks. Employees unions opposed introduction of computers for fear of job losses which never happened.
Thus, in order to effect the changes without causing any disruptions, a meticulous strategy is required to be formulated keeping in mind their effect on the affected section of the people in terms of various factors like economic, social, religious, physiological, psychological, etc. The strategy for effecting changes lies in Greatest Political Scientist –Chanakya’s Neeti which advocates use of “साम, दाम, द॑ड, भेद”. Translated into modern management jargon and elaborated , it means : -
a) Education and communication,
b) Participation of affected people from beginning rather than at the end.
c) Facilitation through support to people to people to overcome changes.
d) Buy the acceptance – compensate people for their hardships/losses.
e) Negotiations – Give some, get some
f) Manipulation – Co-option. Making potential hardliners members of the committee entrusted with designing change, etc.
g) Explicit or implicit coercion.
Use of single method is often unlikely to yield good results. A mixed strategy is more successful.
What we have discussed above is from the individual perspective. But these individuals become managers and then either lend their personality to the organisation or borrow a personality from the organisation depending upon their level in the organisation and structure of the organisation.
Depending upon the top management, an organisation can be a static organisation where little ever changes or a dynamic organisation where change is continuous. HMT, who till 1990, boasted as the time keepers of the nation, are no where now. They failed to catch the wind of change sweeping the country and were swept aside by Titan. Despite having a trusted and respected brand value, unimaginative management failed to see the need for exclusive and trendy outlets. Nor did they come out with new modern styles. Similarly, Bata and Corona, the two Czars of footwear, have lost relevance. Bata is surviving on the fringes while Corona is completely wiped out.
A successful company or manager often fail to accept new ideas. They fail to realise that like human being, there is a life cycle of products also. Products also grow, mature and die. Products also start become less and less efficient to earn profit with age. Therefore, new products, systems, processes need to be introduced before the old ones die their natural death leaving the company in a lurch.
Japanese companies have been at the forefront of change. But most surprisingly, as a nation, Japan proved a static organisation while USA proved to be a learning organisation. When Japanese companies beat US blue in production efficiency, US changed the tack and entered into Knowledge Production and Trading.
Japanese had mastered the art of production. Their strength in the sunrise years of 60s, 70s and 80s was production of quality electronics and automobiles at cheap rates. US kept trying to match the Japanese pace in production techniques but soon realised that given the difference in two cultures, it would be hard task. It quickly changed tack to next technological revolution of IT, internet, and knowledge industry (Nano and Bio technology). While Japan was still trying to achieve incremental profits by improving the production processes, US was making a killing by venture capital in knowledge based industry. While Japan was busy importing material resources from around the world, US was busy importing intellectual resources from the same countries. While Japan was busy exporting goods to the world, US was hawking software and services.
Reasons for Opposition to Change in the Organisation
1. Inability to spot changes taking place around them
2. Lack of interest even though aware of changes in surrounding
3. Too focussed in current activities
4. Arrogance of current success
5. Love of Current Success. – “Excellence is the biggest obstacle in the path of greatness”. People and companies, who achieve excellence in a particular arena, become so immersed in the current success that they forget to move ahead.
How to Change a Static Organisation
1. Sense the need for strategic change
2. Build organisational awareness to need to change
3. Stimulate debate about alternative methods
4. Strengthening consensus for a preferred approach
5. Assigning responsibilities for implementation
6. Allocate resources for sustaining the effort.
Characteristics of a Learning Organisation
1. Frequent Rotation of Managers – Cross training of managers helps in bringing new ways of doing things and makes the managers multiskilled.
2. Continuous training
3. De-centralisation of decision making
4. Multiple experiments
5. Openness to invite and try out new ideas
6. High tolerance to failures
Let us examine the case of General Electric.
General Electric was a much diversified, successful and highly admired company. However, company refused to rest on its past laurels and under the leadership of Jack Welch, initiated the process of change. The steps initiated to effect change in the organisation were –
a) Make GE boundary less organisation
b) Reduce organisation’s layers
c) Asking each business unit to be No 1 or No 2 or close down
d) Acquired new companies
e) Rotate managers between business
f) Introduce six sigma
g) Aggressive expansion in Asia
h) Expand into services business
Process of Change Involves
1. External environment assessment
2. Strategic planning and alignment
3. Minimising resistance
4. Maximising acceptance
5. Change of Organisational structure and culture
6. Developing work climate to enhance teamwork, trust and co-operation
7. Whole hearted implementation
Process of Implementation of Change Involves
a) Unfreezing - the old set of values system, structure and behaviour
b) Changing - Introducing the new set of values and change planned
c) Refreezing – Making permanent the changes. Institutionalising the new set of rules, values, system, structure and behaviour.
The process of implementation should be gradual. Implement it on pilot basis on a small section. Assess the effect on organisation and employees. Optimise the changes, and then implement on the large scale.
Change Management
Most industries and their competitive environments are rapidly changing.
This change is not confined to high-tech or knowledge intensive industries, e.g. software, health-care, biotech
but also to once stable industries e.g. banking, insurance, retailing, food-processing…
When the change come, organizations cannot rely on existing source of competitive advantage, but learn to create new one as their environments change.
In future the only source of sustainable competitive advantage will be to learn new skills and this can be traumatic.
Managers and employees at all levels resist change.
Management practices of learning organizations:
Continued learning
Frequent rotation of mgrs
Decentralization
Openness & diversity of ideas
Multiple experiments
High tolerance to failure
Continued rotation exposes a manager to new ideas and insights. A manager tends to get emotionally attached
and promote current strategies. Continuous rotation overcomes this tendency and helps the manage to learn new
functional skills, new perspectives and competencies
Continued training of personnel helps to overcome resistance to change as it removes the fear of becoming obsolete
and thus loose promotional opportunities/ career advancement- the main obstacles to change.
Successful companies have long commitment to training as it benefits both the individual and the organization
Decentralization of decision making to some degree is important. Lower level mangers. front- line managers
are the first to spot new opportunities or problem areas
Encouragement of multiple or parallel experiments is better bec of high failure rates of new initiatives
It also helps in a superior idea getting rejected. Parallel experimentation helps choose better technologies,
product standards, marketing approaches and management methods. This also encourages a healthy internal.
competition
High tolerance for failures: Many innovative companies tolerate failure and reward achievements
Openness & diversity of viewpoints: True openness by managers to new ideas, suggestions and criticisms is rare
Successful organizations listen to new ideas but encourage diversity of viewpoint and perspectives thought the firm
Excessive control makes the manager myopic.
We can broadly classify organizations into three types.
Learning organizations that consider change as an opportunity & renewal
Static Organizations that focus on doing better what they are doing. They do not promote new learning
In between organizations that change after overcoming varying degrees of resistance. They take time but change. Most organizations fall in this category.
Common reasons for organizational resistance to change:
- Lack of awareness for need to change
- Lack of interest in opportunity for change
- Incompatibility of change with existing values
- Fear of cannibalization
- Fear of personal loss
Change Steps:
1. Sensing the need for strategic change
2. Building organizational awareness for this need
3. Stimulating debate for alternative solutions
4. Strengthening consensus for a preferred approach
5. Assigning responsibility for implementation
6. Allocating resources to sustain the effort
Case: Transformation of GE
Before Welch took-over GE was profitable and grew slowly. Its home appliances, aircraft engines, lighting plastics, consumer electronics & motor businesses were mature, profitable.
Each business unit was finally attuned to competing in its own environment with competition and technology fairly predictable and stable.
The process of transformation from a static to a learning organization that is agile and lean was not easy.
It took two decades to implement many new management practices that make change an acceptable part of working at GE. The figure below shows implementation of various changes
that has changed GE to a learning organization.
The steps Mr. Welsh took the following steps:
1. Make GE a ‘boundryless’ organization meaning people in one department/ division talk with people in others and at all levels, to share ideas, resources and insights. Ideas can also come from customers, vendors even competitors
| Corporate Transformations in the 1990s: Making GE Boundryless. | | | |
| | | | | | | | |
|1980 | |1986 | |1988-1992 | |1994 | |
|GE vulnerable to change |Reduce peripheral |Form strategic alliances |Reduce SBU walls |
| | |businesses | | |even more | |
| | | | | | | | |
|Slow growth |Sell no performing |Work out | |Invest in Asia/Europe |
| | |assets | | | | | |
|Average earnings |Breakdown strong |Team with suppliers/ |Foster continual training |
| | |SBU lines | |customers | |& development |
|Big Bureaucracy |Acquire strong perform |share knowledge & skills |Encourage best practices |
| | |ers elsewhere |across SBU’s |and benchmarking |
|High divisional walls |Delayer |gement |Promote risk takers |Promote common vision |
| |management | | | |
| | |hierarchies | | | | | |
|Lots of protected turf |Adopt new reward |Invest in streamlined |Hire people |with |
| | |systems | |product development time |entrepreneuria|tendencies |
| | | | | |l | |
|Resistance to change | | | | |Six sigma | |
Welsh believed that a boundary-less organization would change faster because it will learn faster
2. Welsh dissolved many layers of management. It lead to layoffs. GE became a thin organization in many units
3. Each business unit was expected to become no 1 or no. 2 in its industry or were sold away.
Several businesses were sold away that were profitable
4. Acquired several new companies. Mr. Welsh acquired 100’s of small companies to bolster GE’s growth rate
Mr. Welsh of course resistance from lower level managers who feared erosion of power base. Some veterans left
others were trained.
Over time he introduced several new initiatives
- Managerial rotation and training
- Promote openness and idea exchange at all levels
- People with the most workable suggestions were given the authority to implement
5. GE introduced six sigma to revamp all its operations, core processes to promote those practices that best support and improve quality objectives of six sigma to identify and eliminate all sources of waste, unleashing in greater improvement in quality and productivity
6. GE trainees graduated to ‘black belt’ in process improvement
7. GE became aggressive to expand into new markets and into new service-based businesses i.e. investing in Asia
8. Expand services businesses to expand to improve profitability of its major businesses
Some major service areas are Aircraft Engines, Medical Systems, Power Systems, Lighting Plastics, and transportation systems.
The also moved closer to customers by setting up service operations on customer sites e. g. on-site repairs.
They adopted change as a way of life.
ENTREPRENEURSHIP AND STRATEGY
Gartener, a market research agency (specialising in IT sector) has done extensive studies in entrepreneurship also. It was a related field as maximum successful entrepreneurs of the last two decades have come from IT field only; Bill Gates being the supreme among them and there after there is whole of Silicon Valley in US and Infosys, TCS, Wipro, etc, in India.
During their studies, they identified a total of 90 attributes which are found in most successful entrepreneurs. However, there was lot of overlapping in those attributes. Therefore, they applied Factor Analysis to identify the stand alone attributes. They thus identified following seven Unique Personal Characteristics (called UPCs) –
Unique Personal Characteristics
a) Risk Taking Ability – This is one characteristic which is the most important of all. Any entrepreneurial venture is like wading into uncharted waters where dangers are plenty and your strength limited. So, unless a person is able to take moderate calculated risk, he can not be an entrepreneur. (Mark the word, Moderate Risk. High risk takers qualify for gambler’s tag and not entrepreneur’s).
b) Internal Focus – Entrepreneurs have very strong self belief. They believe that they can overcome any odd.
c) Autonomy – Most of the entrepreneurs like to be independent. They hate interference in their matters. They want to be their own masters and hate taking orders from any one.
d) Perseverance – In a venture full of risks some failures are inevitable. Unless the person has the perseverance to stay on his course despite setbacks and failures, he won’t succeed.
e) Commitment – Entrepreneurs have very strong commitment to their chosen aim.
f) Vision – Entrepreneurs have long term targets. (I personally don’t agree with this attribute. I believe that most real entrepreneurs start small without lofty aims and ideas with basic survival + a little more as their aim. These management jargons of Vision & Mission enter into their vocabulary only after achieving a reasonable level of success).
g) Creativity – Most entrepreneurs are creative. (Once again I don’t agree with this attribute. It helps in achieving success but is not a must have attribute. A poor farmer’s son, dissatisfied with income from his meagre farming land, may become an entrepreneur by opening a grocery or even a Paan shop in the village. No creativity is involved in entering or running these businesses at basic level. It appears that Gartener has done its study majorly among IT entrepreneurs only for whom creativity is almost a must).
One attribute which I rate as the top among the Must Have attributes, even higher than Risk Taking Ability, is Ambitiousness. As they call it “Need is mother of all inventions”. Ambition is the need for material achievement. Unless this all consuming passion is present, person with all the abilities will be satisfied with whatever he has and will rarely attempt entrepreneurship. So, Ambition is the primary driving force for entrepreneurship. For unknown reasons, this all important attribute does not find a place in Gartener’s list.
There are two ways to look into Entrepreneurship
a) From Inputs’ side
i) Unique Personal Characteristics
ii) Insight into business
iii) Thinking abilities
b) From Output side
i) Innovations - New Products/services/technology
ii) Transforming Organisations
iii) Creating wealth/adding value
What is Corporate Entrepreneurship?
When the whole company behaves like a entrepreneur, takes an entrepreneurial approach to business; spotting opportunities, taking risks, seeking innovations in business, creating value by unconventional means, etc; such a phenomenon is called corporate entrepreneurship. Some of the examples of corporate entrepreneurship are Google, Virgin Corporation, Microsoft, etc.
Corporate Entrepreneurship consists of three critical mechanisms
1. Identification of Entrepreneurial Opportunity; like Sony CEO did for Walkman. (Idea of a portable music system was born when Mr Akio Morita saw his production head walking into his cabin with a music system. When the production head stated that he can not live without music, Mr Morita realised that there would be many in world like his production head who would love to carry a music system with them).
2. Emergence of Entrepreneurial Initiative – Every day a million entrepreneurial ideas are born across the world but few get attempted. Not every one has the initiative to pursue his idea.
3. Renewal of Organisational Capacity – Inspiring people and motivating them. Keep developing competitive advantage through entrepreneurship.
How to Link Entrepreneurship to Strategy (7 Cs)
1. Context – Seeking opportunity all the times and finding how to create value
2. Culture – Build culture that supports value creation
3. Competencies – Acquire required resources, skills, etc
4. Competing – Outperforming competitors
5. Change – Believing in change
6. Control – Control by example.
DIVERSIFICATION STRATEGIES
What is Vertical Integration and how do you differentiate it from Diversification?
Vertical Integration is when a company expands in the value chain of its existing business; forward or backward; towards suppliers’ or customers’ businesses. Eg. When a cloth mill expands into the business of yarn manufacturing (backward integration – suppliers’ business) or into cloth retailing (forward integration – customers’ business), as was done by Reliance, it is vertical integration.
Thus integrative growth can be achieved by
a) Backward Integration – Co seeks ownership or increased control of its raw material supply system. Like Reliance, which has refinery at Jamnagar, diversified into Oil exploration.
b) Forward Integration – Co seeks ownership or increased control of its distribution system. Reliance company is also opening retail petroleum outlets. Thus, it has grown to marketing its own products.
c) Horizontal Integration – Co seeks ownership or increased control of some of its competitors. Like Birla Group (Grasim) which has strong presence in cement production
Diversification is when the company expands into unrelated business; outside the value chain of its present business; like Wipro moved into IT business from its traditional business of Oils, Soaps and lighting. There is no commonality between their old and new businesses. Such a move is called Product Diversification.
There are three types of diversifications: -
a) Concentric Diversification – New products that have technological and/or marketing synergies with existing ones for new class customers. Like a plastic kitchen ware company deciding to diversify into plastic chairs and tables or industrial storage bins/crates business. It already has know-how and equipment for manufacturing plastic articles.
b) Horizontal Diversification – New products appealing its present customers though technologically unrelated. Like a CD manufacturing company coming out with CD Storage Racks. The technology required by the two products is entirely different, but the customers are same.
c) Conglomerate Diversification – New products for new classes. This is diversification into area which has no relation with company’s present business or customers in any way. Take the case of Raymond. A cloth manufacturing company ventured into cement production at one time. There is no synergy between cement and cloth business either in terms of the product or the customers.
Strategic Initiatives for Diversification
1. Pick new industries to enter and decide the mode of entry; own venture (a green field project), partnership, Joint Venture, strategic partnership, licensing or acquisition.
2. Initiate actions to boost combined performance of existing and new companies.
a) Establish/improve the competitive position through economy of scale, larger market share, leveraging/improving brand value, etc
b) Make each business more profitable by improving competitive position.
c) Offer new business your resources to minimise cost and improve profitability.
d) Acquire a third company through combined resources of two companies.
3. Pursuing opportunities to leverage cross business value chains, like, when a sports goods manufacturer diversifies in sports apparels business, his forward value chain is common; same distribution network and customers. Thus, he can benefit from this common part of value chain. He can use his brand name, ware houses, distribution network, etc.
4. Establish investment priorities
When and why should you diversify?
Reasons for diversification are many.
1. Spread the Business Risk - Most of the businesses are cyclic in nature. On the up for some time and then going into recession for some time. Cash flow crunch at recession times can impact the company adversely in terms of meeting debt servicing, modernisation, expansion, etc. Strategically diversified companies will have stable cash flow and can cross utilise the cash.
2. Need for Growth - Existing product sector may be getting saturated with capacity and it may be imprudent to add any further capacity.
3. Opportunity - Often a new sector opens up by virtue of change of govt policies, R&D, social changes, etc, where the profitability is high. Take the case of Wipro. They diversified into IT sector when they found a new sector emerging and saw the opportunity there. Similarly, United Breweries Group of Mr Vijay Mallya diversified into aviation sector when the Indian aviation sector was being opened up even though they continued to strengthen their liquor business through acquisitions.
4. Product Obsolescence - Take the case of photographic films. Digital Photography has begun to erode the market for films. A horizontally diversified company like Kodak is still surviving because the market for photographic printing paper, chemicals and equipment is still intact and growing. It is high time that these companies begin to have a serious re-look on their business strategies from diversification angle. One of the most successful typewriter company, Remigton Rand, is out of business because it did not diversify when computers began to erode its market.
Criteria for Diversification
1. Industry Attractiveness – Industry attractiveness is defined by many factors. Some of them are –
a) Market size
b) Growth rate
c) ROI projections (profit margins)
d) Competitive Intensity (existing and proposed capacity Vs demand)
e) Raw material availability
f) Govt Rules (Licensing, Taxes and tax holidays, subsidy, etc)
g) Energy Requirement – This has assumed importance in India because there is acute shortage of power. Therefore any energy intensive industry, like aluminium foil, in India could face hurdles of availability as well as high cost. Energy cost in Dubai is as low as Rs 0.25 per KW as against Rs 5-6 in India.
2. Entry Cost (Initial Investment) – How much is the minimum investment for a competitively sized factory? Generally, basic industries like metals are capital intensive. Similarly, continuous process industries are also capital intensive and therefore become difficult for entry for small players. So, does the company have pockets deep enough?
3. Synergetic Effect – Does the new industry have any synergy with existing one? Advantage of synergy will lower the cost and make the company more competitive.
Strategic Options regarding Diversification
1. Diversify into related business
a) Transfer skills, capabilities and resources of one business into other.
b) Share resources for cost reduction
c) Leverage use of brand name.
d) Combine the resources to create new capabilities or competitive advantage.
2. Diversify into Unrelated business
a) Spread business risk
b) Get into the big league – Often there is only limited growth opportunities in a single segment.
c) Seize profit opportunities suddenly of offer. Refer para 3 of reasons for diversification above.
d) Manage business portfolio – Resources can be re-appropriated from business in recession to business in upswing.
3. Diversify into Related and Unrelated Business.
Criteria for Unrelated Business Diversification
1. Late stage of business life cycle of current product – Photofilm industry (Kodak) is one example.
2. Assets Undervalued – Acquisition method is adopted for unrelated business diversification when assets of other company are found to be undervalued.
3. When the other company is in financial distress and therefore is available for cheap valuation.
Pros
a) Business risk is scattered.
b) It may be possible to re-appropriate or share resources between two businesses and thereby manage costs better.
Cons
a) Availability of trained and competent people to manage a new business.
b) Is the new business really as attractive as it appeared?
Diversification could be Broad or narrow. There are companies like Tata, Reliance and ITC who have tens of unrelated businesses. Tata starts from salt and at one time ended with Airlines. This is broad diversification. Then, there are narrowly diversified companies like JK group, who at one time had diversified into cement along with their core business of textiles.
Strategies for Already Diversified Companies
1. Make new acquisitions
2. Build new positions ahead of competitors. Strengthen position of business units.
3. Divest some of existing business units that are not in line with company’s vision or are not much profitable. Restructure the portfolio.
4. Become multi industry multi country corporation. This is the most difficult option of all. It needs tremendous capabilities to operate in multiple businesses in wide variety of environments. Take the case of a car manufacturer who found his new successful car complete flop in a new market. Reason – the name of car had distasteful meaning in local language. Currently, Tata is adopting this strategy. It has its presence in many countries in automobiles (Tata trucks and cars), software (TCS), Tea (Tata Tetley brand) and Steel (Tata Corus).
Competitive Strategies for Fragmented Industries
What is a fragmented Industry?
A fragmented industry is one where no company has a dominant market share. It is quite possible that some company may be established brand name but unless this company holds market share large to influence the market, it is not dominant player. Take for example the case of Mercedes Cars. While every car owner and even an aspiring car owner round the world would have heard the name of Mercedes, it has no capacity to influence the car market in general. In the luxury segment, it has some potential to affect the market. But in the domestic market scene, Maruti has enough market share of its own to be called the dominant player. Thus, existence of a well known brand is not enough to call it an un-fragmented industry.
Eg. of Fragmented Industries – Sugar, Construction, Toys, Fashion Garments, Frozen Foods, etc.
What leads to fragmentation?
1. Low Entry/Exit Barriers – Entry barriers, like, licensing, high capital cost, economies of scale, high technologies, etc, pose considerable barriers for new entrants and build monopolistic situations for few old players. However, if entry barriers are low, particular sector gets flooded with new companies. Similarly, if exit barriers are low, companies tend to enter with the hope that they can exit any time if the going gets tough.
2. No Product Differentiation – In case of undifferentiated products, brand loyalty of customers is missing. No brand loyalty means no clout of any company and easy entry for others.
3. Absence of Economies of Scale – This gives a fair play ground to new and small players who begin to enjoy the cost advantage due to small setup (while production cost often comes down due to economy of scale, supervisory costs often go up as a result of large organisation).
4. High Transport Cost – High transport cost, like in case of cement and steel, often take away economies of scale. Thus, the barrier to entry is removed.
5. Fluctuating Sales - In case of fluctuating demand, like in case of fashion goods where customer preference keeps changing regularly, it is risky to for high capacity production.
Creative businesses are highly fragmented businesses. Take for instance advertising or film industry. There are some big names in Hollywood and Bollywood but no one has any substantial market share.
How to manage a fragmented industry?
1. Franchising
2. Co-ordination – Tightly managed decentralisation
3. Autonomy – Managers of various plants need to be given adequate autonomy to take their decision regarding the business.
4. Performance Based Compensation to Managers – Many managers are capable to delivering more than they do but are not motivated enough to do so. Monetary incentives inspire them to dedicate their full potential towards your business.
How to overcome fragmentation?
1. Acquisition – Buy market share by acquisition route.
2. Make it Easier for Others to Exit – Many small players remain in business because they can not exit. Provide them avenues for exit; may be by acquiring their businesses at reasonable prices. Once smaller players exit, fragmentation comes down.
3. Standardisation of your product.
Competitive Strategies in Declining Industries
What is a declining industry?
A declining industry is one where product demand growth is outright negative or slower than economic growth as a whole.
1. Leadership – Seek market share and industry leader position by –
a) Acquisition to purchase market share
b) Aggressive Competitive Action – Get into price war. Weak hearted competitors will quit leaving market for you.
c) Strategy of Ploy – Create an impression of position of strength that you are here to stay. Knowing that there is not enough space for all to survive, others will quit.
2. Focus on Niche Segments – Even in a declining industry there are always certain segments where decline is not there or atleast comparatively less. In some segments profit margins are pretty high though the volumes may be less. Focus on these segments within the industry.
3. Imphasise Product Innovation and Quality Improvement – This strategy can be adopted only if it can be done in a cost effective manner. There is no point in pumping huge money in R&D in a declining industry.
4. Enhance Production and Distribution Efficiency – Production and Distribution take away almost 80% of the total cost. Efficiency in these processes will reduce costs and improve profits. High cost production centres may be closed.
5. Gradually Harvest the Business –
a) Maximise the cash by reducing maintenance, lesser expense on marketing and avoiding any further investments.
b) Stop production of certain models (having negative contribution),
c) Drop low margin customers
d) Reduce service costs – Reduce after sales service people.
e) Reduce inventory of components and spare parts.
6. Divest Quickly – Get out of the business early before market gets the wind of declining business. To be able to do that you ought to have strong forecasting skills.
Porter, after studying the stupendous success of Japan in post WW-II era, asked three basic questions to himself –
1. Why did Japan succeed? Why does a nation succeed in a particular industry?
2. What is the influence of a nation on competition in a specific industry?
3. Why do a nation’s firms select a particular strategy?
Answering above questions, he propounded four hypotheses
1. Nature of competition and source of competitive forces (Porter’s five forces model) differ widely among industries in a country. A firm facing stiff competition in her home country gets ready for competition in the international arena.
2. Successful global competitors form some activities of their value chain outside their home countries and draw competitive advantage from world market rather than their home base.
(Multinational corporations have different strategies for each country. Global corporations have same product and strategy for whole world with only minor adjustments to suit local conditions).
3. Companies gain and sustain competitive advantage through innovations.
4. Firms that successfully gain competitive advantage are industries are those who are early and aggressively exploit the opportunity of technology.
Porter's 'Diamond' Theory
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The conventional wisdom of international trade is challenged by Porter's Diamond Theory. He argues that Comparative advantage can no longer be seen as 'divine inheritance'. As per Diamond Theory, there are four national attributes which shape the environment faced by domestic firms that have direct impact on firm’s ability to compete internationally.
International success in a particular industry is determined by four broad mutually reinforcing factors which create an environment which enables these firms to compete. The four include –
a) Factor conditions,
b) Demand conditions,
c) Related and supporting industries, and
d) Firm’s structure, strategy and rivalry.
Factor Conditions
Porter argues that the factors most important to comparative advantage are not inherited, but are created and that the broad categories of land, labour, and capital are too simplistic. He divides factors into basic and advanced, generalised and specialised.
a) Basic factors such as natural resources, climate and un/semi-skilled labour are 'passively inherited'.
b) Advanced factors are those whose development demands large and substantial investment in human and physical capital, such as educated and skilled manpower, infrastructure, etc.
c) The distinction of generalised versus specialised factors is based on their ability to perform tasks. Generalised factors, such as raw materials, are available in most nations. They can also be sourced on global markets and the activities on them can be performed at a distance from the home base, whereas specialised factors are developed from the generalised factors with considerable investment, like technological development, marketing programmes, etc. Porter argues that sustainable competitive advantage exists when a nation state possesses the factors necessary to compete in particular industry, which are both advanced and specialised.
Demand Conditions
Porter argues that local demand is at the root of international national advantage. If domestic market is large then the company gains expertise in various aspects of business before entering the international market.
a) If domestic customers are sophisticated (understand quality) then companies will be forced to produce quality products.
b) Media exposure in the home country. A company will be more responsible and vigilant against malpractice if media is active.
Related and Supporting Industries
Presence of related and supporting industries in home country help the companies to compete globally. Any automobile company requires ancillary and auxiliary industries. Similarly, presence of dye and chemical industries is helpful for textile industry in gaining competitive advantage.
Firm Structure and Strategy and Rivalry
Porter argues that vigorous domestic rivalry is strongly associated with competitive advantage in an industry. Domestic rivalry creates pressure to innovate and upgrade as local competitors imitate new ideas and the whole industry benefits from overall industry innovation.
Porter provides another framework for international business competitiveness. The two factors of this new framework are
a) Configuration – Location of facilities, whether concentrated in a place or widely dispersed in different countries. High configuration industries are concentrated within a country where as low configuration facilities are widely dispersed in many countries.
b) Coordination – Harmonisation of various activities.
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In the above diagram, coordination is plotted on the Y axis and configuration on the X axis. Starting with the bottom left quadrangle, where configuration is high and coordination is low, this is the strategy adopted by the MNCs. (MNCs’ operation in each country are more or less independent). Eg. Retail Chains, McDonalds, Food Products, etc. Diagonally opposite is High Coordination and Low Configuration which is the hallmark of True Global Corporation. (Global Companies market same product across the globe). Bottom right quadrangle where both coordination and the configuration are low is typical of Export Based Strategy. And finally we have top left quadrangle where both configuration as well as coordination are high. This kind of situation arises in pharma companies where high investments are made in R&D of new drugs.
Mazda Sports Car was a true global product. Its design was developed in California, the prototype was made in England, components were made in New Jersey where as fabrication work was done in Japan. And the car was sold worldwide.
STRATEGIC ALLIANCES
International operations can be started in any of the following three ways –
• Start-ups
• Acquisitions and Mergers
• Strategic Alliances.
What is the difference among the three options?
Start-up means building a new company with your own investment. Obtain licence for a new company, build the plant, hire the people and start operations. A company might launch its own subsidiary in another country.
Mergers and Acquisitions involve taking control of an existing running company along with its brand name and all assets by partial investment in equity.
Strategic Alliances are collaborations with another firm in foreign company without any involvement of equity capital. Strategic Alliances are opted for when the company does not have a strategic asset to launch operations in a foreign market. It could be any thing, technology, market knowledge, local with connections govt, etc. It is necessary that the other firm should have that particular strategic asset. Thus, for a strategic alliance to fructify, the two companies should have complementing strengths and weaknesses.
Forms of Strategic Alliances
• Marketing Partnerships
• Licensing
• Franchising
• Joint Ventures
1. Marketing Alliances Gains
a) Small company in alliance with a global company can reach the global market overnight.
b) Big company does not need to invest in manufacturing facilities.
c) Marketing know-how of local company can be utilised.
d) Dealing with local govt becomes easier.
e) Goodwill of large company is transferred to smaller company.
1. Licensing Gains
Licensing involves transfer of some industrial property right from licensor to licensee.
It could involve any of the following –
a) Brand Name
b) Patents, designs, trademarks, copyrights
c) Product and process know-how and specifications.
d) QC procedures
e) Trade Secrets.
Reasons for Licensing
a) Govt Restrictions for Entry – Often there are restrictions imposed by govts for certain sectors. Thus, a foreign company even though willing to invest in a start-up can not do so. Take the case of Wal Mart. FDI in Retail Sector is not allowed by Indian Govt. Wal Mart, therefore, has tied up with Bharti.
b) Market Too Small for Entry – Market could be too small for a big company. For a large multinational, overheads are too high to justify expansion into small markets. In such cases, licensing is done.
c) Outdated Product/Technology – Many companies in advanced countries license production of goods which have become outdated in their home countries in third world countries. Thus, they are able to recover residual value of that product.
d) Negotiated Deal on Large Purchase – In case of multi billion defence equipment deals, often only part of supplies are purchased in readymade form. For balance quantities, there is a deal involving technology transfer to allow licensed production in purchaser’s country. India, having strong production capabilities but poor R&D facilities, often arm twists foreign weapon suppliers for license for local production.
To succeed in Licensing
a) Licensor should have exclusive internationally transferable product or technology rights
b) Licensor should have a way to control the licensee after selling the license should he start to act irrationally (what if the licensee starts selling the technology to third parties?)
c) Licensor must have competence or know-how to utilise the license.
What does it financially involve?
It could be
a) A one time down payment, Or
b) A large one down payment with small yearly fee payments, Disney style (3% of the annual turnover is yearly fee), or
c) A small down payment with large yearly payments (Star TV has started marketing rights for names of its popular tele serials. Down payment is small but the deal asks for 50% of the sales revenue as yearly fee), or
d) Deferred Payment Basis – There is no payment in the initial years but as the sales grow in later years, charges are high.
e) Equity Participation – Many companies allow license against equal value of equity shares of the licensee company.
2. Franchising
Franchising is a special form of licensing which allows the franchisee to sell a highly publicised product or service using the franchiser’s brand name or trademark, carefully developed procedures and marketing strategies. The franchise is operated by a local investor who must adhere to the strict policies of the franchising company. Like in case of licensing, in this case too, the franchisee pays a fee to the franchiser, normally as percentage of sales.
McDonald outlets are all franchisee outlets. Actually most of the food chain companies’ outlets are franchisee outlets.
Four Characteristics of Franchising –
a) A contractual relationship in which franchise licenses the franchisee to carry out business under the name owned by or associated with franchiser
b) Controlled by the franchiser over the way in which franchisee carries out the business
c) Assistance to the franchisee by the franchiser in running the business prior to commitment and through out the contract period
d) Franchisee’s business is a separate entity from that of the franchiser. The franchisee provides and seeks capital in the venture.
Advantage to the Franchiser –
a) Rapid expansion of business over a wide area
b) Low overhead cost
c) Avoidance of day to day business details
d) Acquires knowledge of local skills and local customers.
Disadvantage to franchiser:
a) Lowering the quality of brand name
b) There is total absence of control by franchiser
c) Only passive interaction with the market.
3. Joint Ventures
Joint Ventures are partnership projects. Two or more companies join hands to launch a third company. While the capital is often shared between the JV companies, there is a complementary relationship between the strengths and weaknesses of the two companies. While one firm may have cutting edge technology but no knowledge of marketing dynamics of other country, second firm may have obsolete technology but a strong presence in that product segment of targeted market. Thus, coordination of superior technology and equally strong marketing and managerial strength creates a formidable company which has all strengths and few weaknesses.
Airbus Industries of Europe is a joint venture among many companies in Britain, France, Spain and Germany.
When is JV preferred?
JV is preferred when –
a) A company wants quick expansion into foreign markets but has no market knowledge of the other country.
b) Govt restrictions upon ownership. (Only 74% FDI is permitted in Telecom sector in India. Therefore, despite having all the necessary resources, Vodafone and AT&T and Hutch can not start operations in India without a joint venture with local firms. Same is the condition with Aviation Sector).
Problems in JVs - Despite all the attendant benefits of quick expansion into unknown territories, JVs pose quite a few problems which need to be addressed before inking the deal.
a) Managerial approach of the two firms might be diverse and integrating them without superseding authority becomes a challenge.
b) Other company in the Native country is difficult to control.
c) Fear of other company selling technological secrets to another company.
MERGERS AND ACQUISITIONS
The problems in many alliance strategies like Joint Ventures is finding a suitable partner. There are any number of cases where the alliance broke and the two companies parted on a bitter note. Suzuki and Govt of India in their alliance for Maruti Car Project have had a running battle for years. In the more recent case, Hero and Honda have had difficulties in their joint venture to manufacture Hero Honda Motor Cycles. Honda has already started its start-up venture of manufacturing scooters and motorcycles which are in direct competition with their Joint Venture with Hero.
Even though Mergers and Acquisitions (M&A) are spoken of in the same breadth, they are not one and same. Merger means that the bought company is merged into the buying company and the bought company’s legal existence is extinguished. All products of that company (brand name associated with that company is killed). Assets of that company are used for purchasing company.
Pros and Cons of Merger & Alliances
1. M&A give a readymade capacity for expansion of company.
2. There is no gestation period involved.
3. A large acquisition can put a medium size company into the big league.
However, the old companies come with old machines, old technology, entrenched culture and managerial practices.
Various Kinds of M&A
1. Vertical Mergers – Mergers of companies which are one or two steps up or down the value chain. When a manufacturing company takes over a retailing business of the same product, or a raw material supplying company, it is called Vertical Merger. If Tata Steel acquires coal or iron ore mining company in Australia, it will be called Vertical Merger.
2. Horizontal Mergers – Mergers of companies in the same product business. Vodafone’s acquisition of Hutch, Tata and Corus, Ispat Group (LN Mittal) and Arcelor acquisitions are examples of horizontal mergers.
3. Circular Combinations - In a circular combination, companies producing distinct products in the same industry, seek amalgamation to share common distribution and research facilities in order to obtain economies by eliminating costs of duplication and promoting market enlargement. The acquiring company obtains benefits in the form of economies of resource sharing and diversification.
4. Conglomerate Combination – A conglomerate combination is the amalgamation of two companies engaged in unrelated industries. It enhances the overall stability of the acquirer company and improves the balance in the company's total portfolio of diverse products and production processes. Through this process, the acquired firm gets access to the existing productive resources of the conglomerate which result in technical efficiency and furthermore it can have access to the greater financial strength of the present acquirer which provides a financial basis for further expansion by acquiring potential competitors. These processes also lead to changes in the structure and behaviour of acquired industries since it opens up new possibilities. ITC is one of the most diversified companies. Similarly, Reliance and Tata are equally diversified. Even Wipro with its Electrical Division, Oils division and computer hardware division is a fairly diversified company.
5. Geographical combination
Reasons for Failure of M&A
1. Unrealistic Valuation of Synergic Advantages – Two out of three M&A failures are attributed to overzealous valuations of synergic advantages of merger and therefore high cost of acquisition. Even Tata’s buy of Corus at 608 pence per share is supposed to be a over valued deal. That was the reason that stock took a severe beating in the stock market after Tata won the deal in battle with CSN of Brazil. Only time will tell whether Tata were right in their valuation.
2. Poor Business Fit – Some times the two businesses do not fit each other well. It happens due to poor due diligence on part of acquiring company. Jet Airways failed acquisition of Sahara Airlines would have fallen in the same category had it materialised. Jet were quick to realise their folly and stop short in their tracks well in time.
3. High Debt – Some times the acquisition fails because the company fails to service high debts taken to buy the company. Thereafter, the cash flow fall short of expectations due to various reasons.
4. Cultural Clash – Cultural clash between two companies can lead to failure. Tomco culture was a laid back culture. When HLL acquired it, there were severe consternations on both sides. Eventually, HLL gave a golden handshake to some employees, some were transferred to remote locations who then quit the job and some fell into the HLL’s dynamic work culture. But many mergers have failed because of cultural clash between the two companies.
5. Regulatory Delays – Every M&A is required to be ratified by the regulatory authorities. There have been instances where the approval for merger was delayed by the regulators and by the time approval was accorded, business environment had altered significantly wiping out all the perceived advantages. Take a hypothetical case of some company taking over Bajaj Scooters in 1980 which had a monopoly then with waiting line running over 5 years. Obviously, it would have been valued very high. But if the approval was delayed by a few years (years’ and even decade’s delay was not a impossible situation then), and the markets were freed in the interim, failure was inevitable.
Role of HR in M&A
Mergers and Acquisitions are turbulent times for both companies. There is lot of uncertainty in the minds of employees of acquired company. HR plays very important role during these times and in the success of M&A. Major responsibilities on HR department are –
1. Remove Cultural Disparities
2. Retain Key Employees – There is often exodus of key employees from taken over company. We have seen this phenomenon in recent take over of BPL mobile. HR department needs to draw strategies to sooth their nerves and retain them.
3. Maximise the productivity of two companies
4. Merging the management styles of two companies
5. Act as a Change Agent
6. Internal Communications – When a company is taken over, the fastest production is at “RUMOURS MILLS”. Rumours fly thick and fast. Some based on half baked facts and some pure imaginations coming out of fear psychosis. If management is quiet during these times, these rumours gain ground leading to negative consequences. Thus, clear communications regarding company’s future plans need to be dished out for all.
MERGERS, ACQUISITIONS AND TAKEOVERS
Introduction
Purpose of business is to earn profit and even more profit. Profit can be increased by reducing cost or increasing price. But both have narrow limits beyond which neither cost can be reduced nor price can be increased. Business growth is the third option where onl sky is the limit.
What we have seen under Strategic Alliances are the growth options wherein there is no equity participation. We will now see the growth option wherein one company is bought over by the other company and ownership changes hands. Buyer company invests huge sums of money in purchasing the other company.
Equity induced growth can be achieved either by Organic way (also called Start-Ups - building more factories through green field route or capacity additions by adding more machines) or Inorganic route, ie, Mergers, Acquisitions and Takeovers.
Organic Growth process often works out cheaper, but not always. (Some times sick companies are available for take over at throw-away prices. Mr LN Mittal’s initial growth strategy was to buy govt owned sick steel mills at throw away prices and then revive them. Some times, even political situations throw a windfall. Political turmoil may lead to exit of foreign firms who dispose off their share in profit making companies at dirt cheap prices. Such situation occurred in Uganda when Gen Idi Amin drove Indians out and local industrialists benefitted. Similarly, when Indian Govt in 1971 forced foreign firms to divest 60% of share holding, it presented an opportunity for Indian firms for cheap takeover). Takeovers and acquisitions mostly come at a hefty price tag and unless there is huge benefit of synergy or there is opportunity to exploit some dormant capacity of target company, success may be elusive. Not all M&As have been successful.
Merger
In Merger, a company purchases another company and either merges its balance sheet into its own balance sheet thereby extinguishing the legal existence of merged company. Or, the balance sheets of both companies are merged and a new company is formed extinguishing the legal existence of both the companies. (Novartis is one such example. Novartis was created in 1996 from the merger of Ciba-Geigy and Sandoz Laboratories).
Normally, the weaker company, with weak balance sheet is merged into the stronger company. However, in many cases, legal existence of “taking over company” is extinguished and weak taken over company survives. This is called Reverse Merger. It happens when weak company, despite its poor financial health, has a very strong brand value, while taking over company has weak brand value despite its profitable record.
Acquisition/Takeover
An acquisition/takeover happens when one company takes over control of another company by purchasing the assets or shares, wholly or partially, in cash or shares or other securities. In acquisition, though the ownership of the bought company changes hands; probably management also changes; but both companies continue to exist as hitherto with all their brands in the market and a layman on the street will not feel any difference.
Amalgamation
Amalgamation is an special case of merger where in both companies lose their identities and a new company is formed. Novartis quoted above is one example.
Pros and Cons of Mergers and Acquisitions
1. No Gestation Period – Organic Growth usually involves a longer period of implementation and greater uncertainties. There could be time overruns or cost over runs or even both. Even without delays, very often it happens that by the time the additional capacity is ready, industry cycle enters into recessionary period and capacity remains unutilized for long years. Mergers and acquisitions expedites growth because additional capacity becomes available immediately.
2. Ease of Funding the Growth - Sometimes, raising adequate funds for capacity expansion is problematic. A merger or an acquisition can obviate, in most of the situations, finance problems as payments are normally made in the form of shares of purchasing company.
3. Entry into Big League – A large acquisition can put a medium size company into the big league.
4. No Choices - Organic Growth enables a firm to retain control with itself and also provides flexibility in choosing equipment, technology, location etc, which are compatible with existing operations. M&A come as a bundle. There are no options; take it or leave it.
Merger-mania has struck India Inc. Indian companies are going hammer and tongs at acquiring companies world over. Tata Group, which had followed Green Field route for over 100 years, has been at the forefront of M&A activity. Starting with Tetley Tea brand, it has recently acquired Corus Steel Company. Reliance ADAG made bold but unsuccessful bid for Hutch, and so on. Even some of the smaller companies are eying overseas companies as big as 4 – 5 times their size. Nearly every sector of the world economy has been affected by the recent wave of mega-mergers.
M&A targets are often unprofitable/inefficient/marginally profitable companies which have lot of latent value locked within them. Almost every PSU falls in that category. Every PSU that has been sold till date, whether profitable or loss making, has gone on to become a gold mine for buyers. Such companies, if allowed to decay and destruct or are liquidated, are a national waste of resources. Mergers, acquisitions and takeovers are modern methods of preventing asset-destruction and systemic decay of national resources.
Factors Attracting Foreign Direct Investment in a Country
1. Market Size – This is single most determinant. BRIC countries (Brazil, Russia, India and China) have become such hot international investment centres because of their market size.
2. Competition – Lower the competition, higher the profits. Growing markets have imperfect markets with poor competition where as developed countries have mature markets where growth is poor and competition is intense. Thus, developing economies like BRIC and Indonesia have become attractive FDI destinations.
3. Availability of Factors of Production – Availability of Raw Material, Cheap Labour, technical know how, etc, bring down the production cost and increase profit margins. BRIC countries again offer all these and therefore are attractive destinations.
4. Government Incentives – Govt incentives lower the investment or improve profit margins depending on kind of incentive. Tax soaps improve the retained profits while subsidised land and power lower the cost of production. Developing countries, in their bid to attract foreign capital, often offer various sops.
Ireland is the hottest destination for high technology FDI. Reasons are manifold. Firstly, Ireland has abundance of highly trained technology workers. It also has excellent R&D facilities. Besides, govt offers 45% cash subsidy for any factory set up there. Tax rate is also as low as 10% only.
5. Availability of R&D institutions
6. Quality of Life – Poor quality of life poses problems for the company in terms of hiring right kind of talent for the country. How many people are willing to Ethiopia? And even some one eventually agrees to go there, he asks for a fat compensation which adds to the cost.
7. Market Proximity – Proximity saves on costs. Transportation costs, travelling costs, communication costs, etc are cut down. Proximity also allows better control.
8. Access to Venture Capital
9. Cost of Doing Business – Costs of doing business like Rentals for office space, protection money, etc. Rentals in Mumbai’s Nariman Point are higher than London. In many countries with poor law and order situation, businesses can not survive without paying protection money to local mafia. Even in India, businesses in North East need to pay monthly protection money to Ultras like ULFA.
10. State of Infrastructure like bandwidth, communication, roads, rail and air connectivity and finally energy. Poor state of infrastructure adds to the cost of production and makes investment unattractive.
Motives for FDI
1. Improving Operating Efficiency – Many countries offer low cost factors of production like, cheap labour and raw material. In addition, closer to raw material reduces cost of transportation of raw material. Also, govt subsidies reduce capital cost. Thus, operating efficiency improves.
2. Resource Seeking – Many companies invest in other countries to overcome resource shortage problems. FDI in software sector in India, is getting attracted by abundance of software professionals and quantitative restrictions imposed by US govt on issue of H1B1 visas to Indian Nationals. In addition, availability of cheap finance is could be reason for movement of capital to certain countries.
3. Risk Reduction – Higher the diversification, lesser the risk. A company diversified into different markets spreads its risks.
4. Market Development –
a) New market may give opportunity for brand differentiation. Nokia in No 1 brand in India and by a huge margin. But Nokia does not enjoy the leadership position in very many company. Its diversification has given it leadership role through differentiation in one of the largest and fastest growing cell phone markets in the world.
b) Market Growth – Diversification into new markets gives new markets for the product.
c) Competition – New market may not have much competition.
5. Government Policies – Govt policies regarding investment, repatriation of profits, monetary policies and incentives influence the FDI movement.
Acquisition as Strategy for Investment Abroad
Three questions need to be answered while making any acquisition –
a) What cost are you willing to pay?
b) What are the chances of success of joint company?
c) Degree of control you require – whether a simple veto power of 26%, controlling power of 51% (you can have your own Board of Director) or absolute control of 76%.
Acquisition can be made either by purchasing shares from the major shareholders or by going to shareholder’s body and making an offer. First option is necessarily a friendly take over. However, second offer could be a hostile take over attempt also. In cases where controlling group does not own 50% or more shares, taking over company can buy shares from market by making an open bid for purchase of shares from all and sundry shareholders. Tata’s takeover of Chorus was a friendly take over where as Mittal’s acquisition of Arcelor was a hostile one.
In addition, there are some times leveraged buy outs too. Leveraged Buy Out (LBO) refers to take over of company with only a miniscule amount of equity and very high debt (Debt to Equity ratio is called Leverage. When debt is high, it called highly leveraged company).
Reasons for M&A
Besides the need to accelerate business growth (and in particular, profit growth), there are several other reasons for merger and acquisitions - .
1. To Gain Quick Entry into New Market – Acquisition of Hutch has given Vodafone entry into the Indian Cell Market. Corus has given Tata Steel straight entry into British and European Market which would have been otherwise very difficult with all their biases against Indian products.
2. Synergy - It results from complimentary activities, e.g., one firm may have substantial financial resources while the other has profitable investment opportunities. Likewise, one firm may be strong in R&D, whereas the other firm may have a very efficient production department. Similarly, one company may have well-established brands but lack marketing organization, and another firm may have a very strong marketing organization. The merged concern in all these cases will be more efficient than the individual firms. Also, a post-merger firm is likely to raise finances at lower rates than that at which either of the pre-merger constituents could have acquired them, as it is perceived to be more secure.
3. Economies of Scale – Reduction in the average cost of production and hence in the unit cost when output is increased is known as Economies of Scale. For instance, sharing central services such as accounting and finance, the office, executive and higher management, legal, sales promotion and advertisement, etc. can be shared between two companies thus substantially reducing these overhead costs.
4. Tax Advantage – If a healthy company acquires a sick one, it can offset losses of sick company (including accumulated losses) against profits of the healthy company under section 72-A of Income Tax Act. Thus, tax incidence on healthy company is reduced.
5. Increased Production Capacity – A green field project often takes years to complete and by then some times the demand cycle goes downhill. M&A give immediate addition to capacity which can be expoited in a booming market.
6. Diversification – A merger between two unrelated firms would tend to reduce business risk, which in turn reduces the discount rate/required rate of the firm’s earnings, thus increasing its market value. In other words, such mergers help stabilize overall corporate incomes which would otherwise fluctuate.
7. Increased Market Power – Combined capacity can give the company substantial control over the market. Mittal Arcelor is the largest Steel Producing company in the world now. Tata Steel acquisition of Corus has become the fifth largest steel producer in the world.
8. Avoiding Cut-Throat Competition: A merger/takeover route may enable companies to eliminate a major competitor. E.g. VIP took over Universal Luggage and put an end to the massive price discounting, which was eating up their profits.
Types of Diversification
1. Backward Integration – Company seeks ownership or increased control of its raw material supply system. Like Reliance, which has refinery at Jamnagar, diversified into Oil exploration.
2. Forward Integration – Company seeks ownership or increased control of its distribution system. Reliance is also opening retail petroleum outlets. Thus, it has grown to marketing its own products.
3. Horizontal Integration – When a company seeks an acquisition or merger which allows ownership or increased control of some of its competitors. Like Birla Group (Grasim) which has strong presence in cement production, has acquired cement division of L&T and renamed Ultra Tech.
4. Related Diversification – when a company uses its goodwill and reputation in a particular business to diversify into new areas where that good name and reputation will be recognized and translated into strategic advantage. An example is that of Wilkinson Sword. It was an old company with a good reputation in the manufacture of ceremonial military swords. Clearly, the market for these products was limited and declining. The company decided, very profitably, to diversify into the manufacture of disposable razor blades-- a market previously dominated by Gillette.
5. Geographical Diversification – It is a form of the Horizontal Diversification wherein a company seeks to expand its traditional business into a different area of the country or internationally. Tata’s acquisition of Corus Steel or Tetley Tea in England are examples of Geographical diversification.
6. Conglomerate Diversification – A company may decide that its strength lies in its its managerial excellence; its ability to manage subsidiary companies being its distinguishing factor, the exact business area being largely irrelevant. Such a company may build a portfolio of subsidiary companies in diverse business areas. Tatas are the one of the most diversified companies; spanning from ordinary salt to software. Similarly, ITC is very diversified company; from cigarettes to hotels to apparels and so on. Such a company would be described as having adopted a strategy of Conglomerate Diversification.
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MNC
CONFIGURATION
Strategy Evaluation & Control
Functional Policies
Reward System
Leadership
Strategy Implementation
Generic Business Strategy
Generic Corporate Strategy
Strategy Choice
Environmental Analysis
Internal Resource Analysis
Mission & Objectives
Strategy Formulation
Substitutes
Organisation Culture
Culture
New Entrants
Buyers’ Bargaining Power
Industry Competitors
(Rivalry among existing firms)
Suppliers’ Bargaining Power
Gains
Input
COORDINATION
Related and Supporting Industries
Firm’s Structure, Strategy and rivalry
Demand Conditions
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