0. Chapter 6
Crafting Business Strategy for Dynamic Contexts

1. OBJECTIVES 1
Identify the challenges to sustainable competitive advantage in dynamic contexts 2
Understand the fundamental dynamics of competition 3
Evaluate the advantages and disadvantages of choosing a first-mover strategy 4
Analyze and develop strategies for managing industry evolution 5
Analyze and develop strategies for technological discontinuities 6
Analyze and develop strategies for high-speed environmental change 7
Explain the implications of a dynamic strategy for the strategy diamond and strategy implementation

2. THE TALE OF NAPSTER Business model options Bank- rupt Subscription
Unlimited downloads for $9.99/month
Streaming
Real-network's Rhap- sody lets music lovers listen as much as they want for one monthly fee
A la carte
Roxio and iTunes sell single songs
Napster
Music
Sold to
Software and music
Roxio
Software
Music
Software
Business sold
Software
Sonic solutions

3. THREE CAUSES OF DYNAMIC CONTEXTS
Examples
When incumbents and, especially, new entrants use a new business model they drive dynamism in market
Mini-mills entered with a new business model and incumbent steel companies did not respond
Competitive Interaction
As industries evolve and competition shifts from differentiation to price/low-cost, advantages shift between rivals
Arm and Hammer almost lost its lead position when baking soda became commoditized
Industry evolution
When technological change is discontinuous, it does not sustain existing leaders advantages
The shift to digital photography favors the strengths of Sony not photography incumbent like Kodak
Technological change

4. PHASES OF COMPETITIVE INTERACTION
Phase 1 Discovery and competitive new action
Phase 2 Customer reaction
Phase 3 Competitor reaction
Phase 4 Evaluation of action and reaction effectiveness
Source: Adapted from K.G. Smith, W.J. Ferrier, and C.M. Grimm, “King of the Hill: Dethroning the Industry Leader,” Academy of Management Executive 15:2 (2001), 59-70

5. THE SPECTRUM OF COMPETITIVE RESPONSES STRATEGIES
Difficult
Ease with threat can be controlled
Containment/Neutralization/Shaping/Absorption/Annulment
Great
“Any firm that invests in resources and capabilities that support retaliation to the exclusion of innovation and change may only be prolonging its inevitable demise”
Limited
Extensive
Scope of response

6. CONTAINMENT Containment
Limit the extent to which the new entrant’s innovation impacts your business
For example: American Airlines can partially contain Southwest by using its bargaining power to secure more exclusive airport gates
Neutralization
Shaping
Absorption
Annulment

7. NEUTRALIZATION Containment
Try to short-circuit the moves of innovators or new entrants before they make them
For example: The Recording Industry Association of America launched such a fierce legal attack on Napster that it forced even smaller Napster-like firms to stay out of the fray
Neutralization
Shaping
Absorption
Annulment

8. SHAPING
Containment
Shape the innovation so it becomes something the incumbent can live with or even benefit from
For example: For years the American Medical Association used regulators to attack chiropractors; now they shape chiropractic medicine to become a complement to traditional medicine
Neutralization
Shaping
Absorption
Annulment

9. ABSORPTION Containment
Minimize the risks entailed by being either a first mover or an imitator
For example: In the late 1980s Microsoft purchased Intuit, the maker of Quicken and QuickBooks; because it identified money-management software as a high- growth opportunity.
Neutralization
Shaping
Absorption
Annulment

10. ANNULMENT Containment
Improve incumbent products and services to annul an innovation or new entrant’s offering
For example: Kodak has improved the quality of its film-based prints so that they are superior to many digital-based alternatives
Neutralization
Shaping
Absorption
Annulment

11. PROS AND CONS OF FIRST MOVERS
A first-mover is often better off than a fast follower when:
A first-follower is often better off than a first mover when:
It achieves absolute cost advantage
Rapid technology advances allow a fast-follower to leapfrog the first mover
Its reputation and image advantages are hard to copy
The first mover’s offering strikes a chord but is flawed
Its customers are locked in (i.e., switching costs exist)
The first mover lacks a key complement (e.g., channel access) that the follower possesses
Scale of the first move makes imitation unlikely
First-mover costs outweigh the advantages of being the first-move

12. A GALLERY OF FIRST-MOVERS AND FAST FOLLOWERS
Imitators/fast followers
Product
Pioneer(s)
Comments
Automated teller machines (ATMs)
DeLaRue (1967)
Docutel (1969)
Diebold (1971)
IBM (1973)
NCR (1974)
The first movers were small entrepreneurial upstarts that faced two types of competitors: (1) larger firms with experience selling to banks and (2) the computer giants. The first movers did not survive
Ballpoint pens
Reynolds (1945)
Eversharp (1946)
Parker (1954)
Bic (1960)
The pioneers disappeared when the fad first ended in the late 1940s. Parker entered 8 years later. Bic entered last and sold pens as cheap disposables
Commercial jets
DeHaviland (1952)
Boeing (1958)
Douglas (1958)
The pioneers rushed to market with a jet that crashed frequently. Boeing and Douglas (later known as McDonnell-Douglas) followed with safer, larger, and more powerful jets unsullied by tragic crashes
Credit cards
Diners club (1950)
Visa/Master- Card (1966)
American Express (1968)
The first mover was undercapitalized in a business in which money is the key resource. American Express entered last with funds and name recognition from its traveler’s check business
Diet soda
Kirsch’s No-Cal (1952)
Royal Crown’s Diet
Rite Cola (1962)
Pepsi’s Patio Cola (1963)
Coke’s Tab (1964)
Diet Pepsi (1964)
Diet Coke (1982)
The first mover could not match the distribution advantages of Coke and Pepsi. Nor did it have the money or marketing expertise needed for massive promotional campaigns

13. A GALLERY OF FIRST-MOVERS AND FAST FOLLOWERS (CONT.)
Imitators/fast followers
Product
Pioneer(s)
Comments
Light beer
Rheingold’s and Gablinger’s (1968)
Meister Brau Lite (1967)
Miller Lite (1975)
Natural light (1977)
Coors light (1978)
Bud light (1982)
The first movers entered 9 years before Miller and 16 years before Budweiser, but financial problems drove both out of business. Marketing and distribution determined the outcome. Costly legal battles, again requiring access to capital, were commonplace
PC operating systems
CP/M (1974)
Microsoft DOS (1981)
Microsoft Windows (1985)
The first mover set the early industry standard but did not upgrade for the IBM PC. Microsoft bought an imitative upgrade and became the new standard. Windows entered later and borrowed heavily from predecessors (and competitor Apple), then emerged as the leading interface
Video games
Magnavox’s Odyssey (1972)
Atan’s Pong (1972)
Nintendo (1985)
Sega (1989)
Microsoft (1998)
The market went from boom to bust to boom. The bust occurred when home computers seemed likely to make video games obsolete. Kids lost interest when games lacked challenge. Price competition ruled. Nintendo rekindled interest with better games and restored market order with managed competition. Microsoft entered with its Xbox when perceived gaming to be a possible component of its wired world
Source: Adapted from S. Schnaars, Managing Imitation Strategies (New York Free Press, 1994), 37-43

14. EVALUATING A FIRM’S FIRST-MOVER DEPENDENCIES ON INDUSTRY COMPLEMENTS
Status of complementary assets
Freely available or unimportant
Tightly held and important
It is difficult for anyone to make money: Industry incumbent may simply give new product or service away as part of its larger bundle of offerings
Value-creation opportunities favor the holder of complementary assets, who will probably pursue a fast-follower strategy
Weak protection from imitation
Bases of first mover advantages
First mover can do well depending on the execution of its strategy
Value will go either to first mover or to party with the most bargaining power
Strong protection from imitation

15. STRATEGIES FOR MANAGING COMMODITIZATION
Examples
Value-in-use approach
Timken bundles commodity product with key components
Dell sells directly to consumers
K-mart and KB Toys both reduced number of customers when they restructured
Hotels may charge extra for cable TV and computer hookups
Anticipating
Process innovation
approach
Managing commoditization
Market focus
Responding
Service
innovation

16. EFFECT OF TECHNOLOGICAL DISRUPTION
Maturity
Growth
Disruption
Embryonic
Performance
Time

17. FOUR ACTIONS FRAMEWORK: KEY TO THE VALUE CURVE
Reduce
The key to discovering a new value curve lies in answering four basic questions
What factors should be reduced well below the industry standard?
Eliminate
What factors that the industry has taken for granted should be eliminated?
Create/Add
What factors that the industry has never offered should be created or added?
Creating new markets:
A new value curve
Raise
Cirque du Soleil example
What factors should be raised well above the industry standard?
Source: Adapted from W.C. Kim and R. Mauborgne, “Blue Ocean Strategy,” California Management Review 47:3 (2005),

18. HIGH AND LOW-END DISRUPTION
Strategy that may result in huge new markets in which new players redefine industry rules to unseat the largest incumbents
High-end
Strategy that appears at the low end of industry offerings, targeting the least desirable of incumbents’ customers
Low-end

19. VALUE CURVE for U.S. WINE INDUSTRY – YELLOW TAIL
Expensive wines
Yellow tail
Cheap wines
High
Low
Price
Above-the-line marketing
Vineyard prestige
Wine range
Ease of selection
Use of technical wine terminology
Aging quality
Wine complexity
Easy drinkability
Fun and adventure

20. CONVENTIONAL VS. NEW MARKET-CREATION STRATEGIC MINDSETS
Dimensions of competition
Head-to-Head competition
New-market creation
Emphasizes competitive position within group and segments
Emphasizes rivalry
Emphasizes better buyer service
Emphasizes efficient operation of the model
Emphasizes adaptation and capa- bilities that support competitive retaliation
Emphasizes product or service value and offerings within industry definition
Looks across groups and segments
Emphasizes substitutes across industries
Emphasizes redefinition of the buyer and buyer’s preferences
Emphasizes rethinking of the industry business model
Emphasizes strategic intent-seeking to shape the external environment over time
Emphasizes complementary products and services within and across industries and segments
Industry
Strategic group and industry segments
Buyers
Product and service offerings
Business model
Time

21. SOME WELL-KNOWN DISRUPTIONS
Microsoft took 15 years to grow from boutique software firm to Goliath
Atari grew from $50 million to $1.6billion over 5 years, doubling every year
Compaq grew from zero revenues to $ 1billion in 5 years

22. CREATING OPTIONS FOR FUTURE COMPETITIVE ADVANTAGE AND PROFITABILITY
Horizon 3
Seed options for future growth business
Horizon 2
Drives growth in emerging new business
Horizon 1
Defend and extend current business
Profit
Time
Tactical probing

23. IMPROVISATION AND SIMPLE RULES
Picture source: stock.xchng ( royalty free stock photos
IMPROVISATION AND SIMPLE RULES
Just as Jazz musicians can improvise when they play together because they follow a set of simple rules ...
... corporations can become more flexible by allowing improvisation under a set of simple rules
Simple rules
Customer is always right
Always run highest profitability products
Never

24. TACTICAL PROBING OPERATIONAL TACTICS CAN BECOME STRATEGICALLY IMPORTANT
Merrill lynch discount initiative
Tactical initiatives
Futures – trading
Simplified mutual-fund offerings
Internet products services
Credit cards
Outline mortgage  û
Though some initia-tives failed, several enabled Charles Schwab to further differentiate itself from its bare-bones competition
Charles
Schwab
E* Trade

25. STAGING AND PACING IN THE REAL WORLD
“Five years is the maximum that you can go without refreshing the brand ... We did it (relaunched Club Europe Service) because we wanted to stay ahead so that we could continue to win customers”
British Airways
“In each of the last three years we’ve introduced more than 100 major new products, which is about 70% above our pace of the early 1990s. We plan to maintain this rate and, overall, have targeted increasing new products to (equal) 35% of total sales”
Emerson Electric
The inventor of Moore’s Law stated that the power of the computer chip would double every 18 months. IBM builds a new manufacturing facility every nine months. “We build factories two years in advance of needing them, before we have the products to run in them, and before we know the industry is going to grow”
Intel
40% of Gillette’s sales every five years must come from entirely new products (prior to its acquisition by P&G). Gillette raises prices at a pace set to match price increases in a basket of market goods (which includes items such as a newspaper, a candy bar, and a can of soda). Gillette prices are never raised faster than the price of the market basket.
Gillette
30% of sales must come from products that are fewer than 4 years old 3M
Source: S. Brown and K. Eisenhardt, Competing on the Edge: Strategy as Structure Chaos (Boston: Harvard Business School Press, 1998)

26. REAL OPTIONS – FIVE CATEGORIES
Waiting-to-invest options. The value of waiting to build a factory until better market information comes along may exceed the value of immediate expansion
Growth options. An entry investment may create opportunities to pursue valuable follow-up projects
Flexibility options. Serving markets on two continents by building two plants instead of one gives a firm the option of switching production from one plant to the other as conditions dictate
Exit (or abandonment) options. The option to walk away from a project in response to new information increases its value
Learning options. An initial investment may generate further information about a market opportunity and may help to determine whether the firm should add more capacity

27. THE VALUE OF REAL OPTIONS
DCF value
Value of real options
Total busi-ness value
Current business value
Real- options value
Total business value + =
Source: L.E.K. Consulting LLC, Shareholder Value Added: Making Real Decisions with Real Options (Accessed September 12, 2005), 16.pdf.

28. SUMMARY 1
Identify the challenges to sustainable competitive advantage in dynamic contexts 2
Understand the fundamental dynamics of competition 3
Evaluate the advantages and disadvantages of choosing a first-mover strategy 4
Analyze and develop strategies for managing industry evolution 5
Analyze and develop strategies for technological discontinuities 6
Analyze and develop strategies for high-speed environmental change 7
Explain the implications of a dynamic strategy for the strategy diamond and strategy implementation

29. EXERCISES
If you were the CEO of Napster, what material from this chapter would be most relevant to you? How might it help you formulate strategy? What might the key components of the strategy be? How should Microsoft use this chapter to formulate a strategic response to Napster?
Consider first and second mover advantages. What specific resources and capabilities do you think successful first and second movers must possess? Do you think a firm could be both a first mover and fast follower if it wanted to be?
Choose an industry you believe is very dynamic and identify the drivers of that dynamism. Now pick a firm in that industry and formulate a strategy and basic implementation scheme to exploit its dynamic context