Chapter 6 Crafting Business Strategy for Dynamic Contexts

THE TALE OF NAPSTER Bankrupt Business model options Napster Music 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 Sold to Software and music Roxio Software Music Software Business sold Software Sonic solutions

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

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

THE SPECTRUM OF COMPETITIVE RESPONSES STRATEGIES Difficult Ease with threat can be controlled Containment/Neutralization/Shaping/Absorption/Annulment Great Limited Extensive Scope of response

CONTAINMENT Containment Neutralization Limit the extent to which the new entrant’s innovation impacts your business Shaping Absorption Annulment

CONTAINMENT Example Containment For example: American Airlines can partially contain Southwest by using its bargaining power to secure more exclusive airport gates Neutralization Shaping Absorption Annulment

NEUTRALIZATION Containment Neutralization Try to short-circuit the moves of innovators or new entrants before they make them Shaping Absorption Annulment

NEUTRALIZATION Example Containment 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

SHAPING Containment Neutralization Shape the innovation so it becomes something the incumbent can live with or even benefit from Shaping Absorption Annulment

SHAPING Example Containment 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

ABSORPTION Containment Neutralization Minimize the risks entailed by being either a first mover or an imitator Shaping Absorption Annulment

ABSORPTION Example 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. Containment Neutralization Shaping Absorption Annulment

ANNULMENT Containment Improve incumbent products and services to annul an innovation or new entrant’s offering Neutralization Shaping Absorption Annulment

ANNULMENT Example Containment 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

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

The Comparative Success of Leaders and Followers First mover Follower Winner Operating systems for mobile phones First mover E-book reader Follower MP3 music players Follower

The Comparative Success of Leaders and Followers First mover Follower Winner Fiber Optic Cable Many other companies First mover Follower Office P.C. Web browser Follower 17

Bowser Market Share 2011

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

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

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

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

EFFECT OF TECHNOLOGICAL DISRUPTION Maturity Growth Disruption Embryonic Performance Time

FOUR ACTIONS FRAMEWORK: KEY TO THE VALUE CURVE Reduce What factors should be reduced well below the industry standard? The key to discovering a new value curve lies in answering four basic questions Creating new markets: A new value curve 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? Raise 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), 105-121

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

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

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

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

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

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

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” Emerson Electric Intel “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” 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” Source: S. Brown and K. Eisenhardt, Competing on the Edge: Strategy as Structure Chaos (Boston: Harvard Business School Press, 1998)

STAGING AND PACING IN THE REAL WORLD (cont’d) Gillette 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. 3M 30% of sales must come from products that are fewer than 4 years old

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

THE VALUE OF REAL OPTIONS Current business value Real- options value Total business value 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), www.lek.com/ideas/publications/sva 16.pdf.