McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 1 CHAPTER 8 Strategic Analysis and Choice in the Multibusiness Company: Rationalizing Diversification and Building Shareholder Value

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 2 Chapter Topics Rationalizing Diversification and Integration Opportunities for Sharing Infrastructure and Capabilities Capitalizing on Core Competencies Balancing Financial Resources Portfolio Analytical Techniques Behavioral Considerations Affecting Strategic Choice

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 3 Questions Related to Diversification and Integration Are opportunities for sharing infrastructure and capabilities forthcoming? Are we capitalizing on our core competencies? Does the company’s business portfolio balance financial resources? Does our business portfolio achieve appropriate levels of risk and growth?

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 4 Ex. 8-1: Value Building in Multibusiness Companies (Market-Related Opportunities) Opportunities to Build Value or Sharing Potential Competitive Advantage Impediments to Achieving Enhanced Value Shared sales force activities or shared sales office, or both Lower selling costs Better market coverage Stronger technical advice to buyers Enhanced convenience for buyers Improved access to buyers Buyers have different purchasing habits toward the products Different salespersons are more effective in representing the product Some products get more attention than others Buyers prefer to multiple- source rather than single- source their purchases

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 5 Ex. 8-1 (contd.) Opportunities to Build Value or Sharing Potential Competitive Advantage Impediments to Achieving Enhanced Value Shared after-sales service and repair work Low servicing costs Better utilization of service personnel Faster servicing of customer calls Different equipment or different labor skills, or both, are needed to handle repairs Buyers may do some in-house repairs Shared brand nameStronger brand image and company reputation Increased buyer confidence in the brand Company reputation is hurt if quality of one product is lower Shared advertising and promotional activities Lower costs Greater clout in purchasing ads Appropriate forms of messages are different Appropriate timing of promotions is different

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 6 Ex. 8-1 (contd.) Opportunities to Build Value or Sharing Potential Competitive Advantage Impediments to Achieving Enhanced Value Common distribution channelsLower distribution costs Enhanced bargaining power with distributors and retailers to gain shelf space, shelf positioning, stronger push and more dealer attention, and better profit margins Dealers resist being dominated by a single supplier and turn to multiple sources and lines Heavy use of the shared channel erodes willingness of other channels to carry or push the firm’s products Shared order processingLower order processing costs One-stop shopping for buyer enhances service and, thus, differentiation Differences in ordering cycles disrupt order processing economies

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 7 Ex. 8-1 (contd.) (Operating Opportunities) Opportunities to Build Value or Sharing Potential Competitive Advantage Impediments to Achieving Enhanced Value Joint procurements of purchased inputs Lower input costs Improved input quality Improved service from suppliers Input needs are different in terms of quality or other specifications Inputs are needed at different plant locations, and centralized purchasing is not responsive to separate needs of each plant Shared inbound or outbound shipping and materials handling Lower freight and handling costs Better delivery reliability More frequent deliveries, such that inventory costs are reduced Input sources or plant locations, or both, are in different geographic areas Needs for frequency and reliability of inbound/outbound delivery differ among the business units

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 8 Ex. 8-1 (contd.) Opportunities to Build Value or Sharing Potential Competitive Advantage Impediments to Achieving Enhanced Value Shared manufacturing and assembly facilities Lower manufacturing/assembly costs Better capacity utilization, because peak demand for one product correlates with valley demand for other Bigger scale of operation improves access to better technology and results in better quality Higher changeover costs in shifting from one product to another High-cost special tooling or equipment is required to accommodate quality differences or design differences

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 9 Ex. 8-1 (contd.) Opportunities to Build Value or Sharing Potential Competitive Advantage Impediments to Achieving Enhanced Value Shared product and process technologies or technology development or both Lower product or process design costs, or both, because of shorter design times and transfers of knowledge from area to area. More innovative ability, owing to scale of effort and attraction of better R&D personnel Technologies are the same, but the applications in different business units are different enough to prevent much sharing of value Shared administrative support activities Lower administrative and operating overhead costs Support activities are not a large proportion of cost, and sharing has little cost impact (and virtually no differentiation impact)

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 10 Ex. 8-1 (contd.) (Management Opportunities) Opportunities to Build Value or Sharing Potential Competitive Advantage Impediments to Achieving Enhanced Value Shared management know- how, operating skills, and proprietary information Efficient transfer of a distinctive competence – can create cost savings or enhance differentiation. More effective management as concerns strategy formulation, strategy implementation, and understanding of key success factors Actual transfer of know- how is costly or stretches the key skill personnel too thinly, or both. Increased risks that proprietary information will leak out

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 11 Critical Elements for Shared Opportunities to Be Meaningful 1.Shared opportunities must be a significant portion of the value chain of businesses involved 2. Businesses involved must truly have shared needs or there is no basis for synergy in the first place

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12 Evaluating the Role of Core Competencies Is each core competency providing a relevant competitive advantage to the intended businesses? Are businesses in the portfolio related in ways that make the company’s core competence(s) beneficial? Are our combination of competencies unique or difficult to create?

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 13 Balancing Financial Resources: Portfolio Techniques BCG Growth- Share Matrix Industry Attractiveness- Business Strength Matrix Life Cycle- Competitive Strength Matrix BCG’s Strategic Environments Matrix

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 14 Ex. 8-4: The BCG Growth-Share Matrix StarProblem Child Cash Cow Dog Cash Generation (Market Share) High Low High Low Cash Use (Growth Rate) Description of Dimensions Market share: sales relative to those of other competitors in the market (dividing point is usually selected to have only the two-three largest competitors in any market fall into the high market share region) Description of Dimensions Growth Rate: Industry growth rate in constant dollars (diving point is usually the GNP’s growth rate)

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 15 Ex. 8-5: Factors Considered in Constructing an Industry Attractiveness-Business Strength Matrix (Industry Attractiveness) Nature of Competitive Rivalry Bargaining Power of Suppliers/Customers Threat of Substitutes/New Entrants Number of competitors Size of competitors Strength of competitors’ corporate parents Price wars Competition on multiple dimensions Relative size of typical players Numbers of each Importance of purchases from or sales to Ability to vertically integrate Technological maturity/stability Diversity of the market Barriers to entry Flexibility of distribution system

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 16 Ex. 8-5 (contd.) Economic FactorsFinancial NormsSociopolitical Considerations Sales volatility Cyclicality of demand Market growth Capital intensity Average profitability Typical leverage Credit practices Government regulation Community support Ethical standards

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 17 Ex. 8-5 (contd.) (Business Strength) Cost PositionLevel of Differentiation Response Time Economies of scale Manufacturing costs Overhead Scrap/waste/rework Experience effects Labor rates Proprietary processes Promotion effectiveness Product quality Company image Patented products Brand awareness Manufacturing flexibility Time needed to introduce new products Delivery times Organizational flexibility

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 18 Ex. 8-5 (contd.) Financial StrengthHuman AssetsPublic Approval Solvency Liquidity Break-even point Cash flows Profitability Growth in revenues Turnover Skill level Relative wage/salary Morale Managerial commitment Unionization Goodwill Reputation Image

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 19 Ex. 8-6: The Industry Attractiveness- Business Strength Matrix High MediumLow Industry Attractiveness High Low Business Strength Medium Invest Selective Growth Grow or Let Go Harvest Divest Grow or Let Go Harvest Selective Growth Grow or Let Go Description of Dimensions Industry Attractiveness: Subjective assessment based on broadest possible range of external opportunities and threats beyond the strict control of management Business Strength: Subjective assessment of how strong a competitive advantage is created by a broad range of the firm’s internal strengths and weaknesses

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 20 Advantages of the Industry Attractiveness-Business Strength Matrix Over the BCG Matrix Terminology is less offensive and more understandable Multiple measures associated with each dimension tap many factors relevant to business strength and market attractiveness Allows for broader assessment during both strategy formulation and implementation for a multibusiness company

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 21 Ex. 8-7: The Market Life Cycle- Competitive Strength Matrix Caution: Invest Selectively Push: Invest Aggresively Danger: Harvest Stage of Market Life Cycle IntroductionGrowthMaturityDecline High Low Competitive Strength Description of Dimensions Stage of Market Life Cycle: See p. 146 Competitive Strength: Overall subjective rating, based on a wide range of factors regarding the likelihood of gaining and maintaining a competitive advantage

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 22 Ex. 8-8: BCG’s Strategic Environments Matrix Fragmented apparel, house building, jewelry retailing, sawmills Specialization pharmaceuticals, luxury cars, chocolate confectionery Stalemate basic chemicals, volume- grade paper, ship owning, wholesale banking Volume jet engines, supermarkets, motorcycles, standard microprocessors Many Few SmallBig Size of Advantage Sources of Advantage

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 23 Contributions of Portfolio Approaches Convey large amounts of information about diverse businesses and corporate plans in a simplified format Illuminate similarities and differences among businesses, conveying the logic behind corporate strategies for each business Simplify priorities for sharing corporate resources across diverse businesses Provide a simple prescription of what should be accomplished – a balanced portfolio of businesses

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 24 Limitations of Portfolio Approaches Does not address how value is created across business units Accurate measurement for matrix classification not as easy as matrices implied Underlying assumption about relationship between market share and profits varies across different industries and market segments Limited strategic options viewed as basic strategic missions Portrays notion that firms need to be self-sufficient in capital Fails to compare competitive advantage a business receives from being owned by a particular company with costs of owning it

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 25 Behavioral Considerations Affecting Strategic Choice Role of current strategy Degree of firm’s external dependence Attitudes toward risk Managerial priorities different from stockholder interests Internal political considerations Competitive reaction

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 26 Behavioral Considerations Affecting Strategic Choice Role of current strategy –What is the amount of time and resources invested in previous strategies? –How close are new strategies to the old? –How successful were previous strategies? Degree of firm’s external dependence –How powerful are firm’s owners, customers, competitors, unions, and its government? –How flexible is firm with its environment?

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 27 Behavioral Considerations Affecting Strategic Choice Attitudes toward risk –Industry volatility and industry evolution affect managerial attitudes –Risk-oriented managers prefer offensive, opportunistic strategies –Risk-averse managers prefer defensive, conservative strategies Managerial priorities different from stockholder interests –Agency theory suggests managers frequently place their own interests above those of their shareholders

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 28 Behavioral Considerations Affecting Strategic Choice Internal political considerations –Major sources of company power are CEO, key subunits, and key departments –Power can affect corporate decisions over analytical considerations –The content of strategic decisions and the process of arriving at such decisions are politically charged Competitive reaction –Probable impact of competitor response must be considered during strategy design process –Competitor response can alter the success of strategy

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 29 Ex. 8-11: Political Activity in Phases of Strategic Decision Making Phases of Strategic Decision Making Focus of Political ActionExamples of Political Activity Identification and diagnosis of political issues Control of: Issues to be discussed Cause-and-effect relationships to be examined Control agenda Interpretation of past events and future trends Narrowing the alternative strategies for serious condition Control of alternativesMobilization: Coalition formation Resource commitment for information search

McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 30 Ex (contd.) Phases of Strategic Decision Making Focus of Political ActionExamples of Political Activity Examining and choosing the strategy Control of choiceSelective advocacy of criteria. Search and representation of information to justify choice Initiating implementation of the strategy Interaction between winners and losers Winners attempt to “sell” or co-opt losers. Losers attempt to thwart decisions and trigger fresh strategic issues Designing procedures for the evaluation of results Representing oneself as successful Selective advocacy of criteria