Saturday, August 20, 2005

A Radically Simplified Approach to Business Strategy

It is now 25 years ago that Harvard professor, Michael E. Porter wrote "Competitive Strategy". Essentially Porter says you need to consider Five Competitive Forces to analyse the attractiveness of an industry for a company.

A new book on business strategy: "Competition Demystified - A Radically Simplified Approach to Business Strategy" by Bruce Greenwald, a professor at the Columbia Business School, and Judd Kahn, is a conscious simplification of Michael Porter's classic.

According to the authors, in most cases, studying only one factor will do: Potential Entrants. They claim the Barriers to Entry is by far the most important factor in business strategy.

If they are right that would make business strategy formulation a lot simpler!

"Either the existing firms within the market are protected by barriers to entry or they are not," the authors write. " No other feature of the competitive landscape has as much influence on a company's success as where it stands in relationship to these barriers." And: "Avoiding competition is the only way to escape a level playing field in which anyone can join... [and] only the best... survive and prosper."

Greenwald and Kahn argue that:
  • Firms operating without competitive advantages should concentrate all their efforts on being efficient;
  • Companies that do have competitive advantages need to design strategy with their competitors in mind;
  • Most competition is over pricing or capacity, and there are established techniques for analyzing these situations and devising the right strategies to handle them;
  • Cooperation between competitors is possible and beneficial and can be accomplished without breaking the law;
  • In an increasingly global economy, competitive advantages still stem primarily from local conditions. Even large international firms need to understand and protect the local sources of their success.

Most importantly, according to the authors there are really only three sustainable competitive advantages;

  1. Supply. A company has this edge when it controls an important resource: in Hollywood, for example, it may mean having Julia Roberts or Tom Cruise star in a movie. Or a company may have a proprietary technology, like a prescription drug, that is protected by patent.
  2. Demand. A company can control a market because customers are loyal to it, either out of habit - to a brand name, for example - or because the cost of switching to a different product is too high. Companies often put off changing software vendors, for example, for that reason.
  3. Economies of scale. If your operating costs remain fixed while output increases, you can gain a significant edge because you can offer your product at lower cost without sacrificing margins.

Greenwald and Kahn explain in depth how a business can capitalize on each type of advantage.


Blogger Joe F. Clark said...

I am a big fan of creating barriers to entry as a form of competitive advantage. I also like the concept of creating barriers to exit that Geoffrey Moore highlights in his book, Living on the Fault Line. Essentially, this concept describes the level of difficulty a customer has to leave you. It sounds a bit negative but it can actually be a huge competitive factor. For example; a few years back when XM satellite started offering its service, customers had to purchase hardware (a player) that was generally installed in their vehicle. Once a customer has made that commitment there is less of a chance they will move to another provider and therefore you have barrier to exit.

6:14 PM  
Blogger Strategy on the Internet. said...

I agree that the subject of entry/exit barriers can be a very powerful force in the succesful development of a company. Although, todays use of these is troublesome in my opinion. Companies try to gain short term profits through creating a strong "customer-lock-in effect", but the methods applied in todays economy are borderline fraud, or with the intent of "luring-in-the-costumer", in many cases. Examples of these are telecomunication companies that make their clients sign contracts from which there is virtually no escape. The Iternet also unfortunatly houses many companies that make use of contracts and terms that are hard to descifer for the costumers. Instead companies should be focusing more on "old-school" strategig thinking, and offer products and services that consumers would actually be willing to stay faithfull to for long periods of time. I fear a lot of companies are going down the same short-term-profit road that lead to the collapse of the 1st generation Internet economy.

Michael E. Porter was the one to highlight this trend and the danger of not acting with the strategic behavior of the conventional schools of strategy. So my point would be the following: There are no short-cuts around a solid business strategy! I do not believe that a simplification of business strategy is possible at the moment considering that this has already been tried out by the 1st generation Internet companies that discarded conventional strategy and chased short term profits through cutting prices and relying on online marketing. They tried to create strategic short cuts - and showed us the dangerous effects of such behavior.

5:12 PM  
Blogger MPCM said...

Interesting points. Contradicts a recent article by the Strategic Planning Society where business school academics advocate using Porters 5 Forces only as one tool of many, and not in isolation. Simplifying an already 'simplified' tool seems to be a limiting approach to business strategy. It would make life easier, though...

1:41 PM  

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