CHAPTER 4 Competitive Strategy Life is to be lived, not controlled; and humanity is won by continuing to play in the face of certain defeat. Ralph Ellison CHAPTER OUTLINE 1. 4.1 Venture Strategy 2. 4.2 Core Competencies 3. 4.3 The Industry and Context for a Firm 4. 4.4 SWOT Analysis 5. 4.5 Barriers to Entry 6. 4.6 Achieving a Sustainable Competitive Advantage 7. 4.7 Alliances 8. 4.8 Matching Tactics to Markets 9. 4.9 The Socially Responsible Firm 10. 4.10 Spotlight on Uber 11. 4.11 Summary How can a venture create a strategy to fit the new business opportunity? E very new venture has a strategy or approach to achieve its goals. This strategy is in response to its plan to implement a solution to an important problem or opportunity. The process for creating a strategy for a new firm is shown in Table 4.1. Step 1 was described in Chapter 3. With sound vision and mission statements and an initial business model, the entrepreneur identifies the venture’s core competencies and examines the political and economic context of the industry (steps 2 and 3). Once the industry is understood, steps 4 and 5 are used to describe the firm’s strengths and weaknesses and its opportunities and threats (SWOT). In step 6, the entrepreneur integrates his or her knowledge of the industry and competitors with his or her own SWOT to identify key success factors. Based on the information gathered in the preceding steps, the entrepreneur refines his or her vision, mission, and business model and creates a strategy to achieve a sustainable competitive advantage. The formation of cooperative alliances with other enterprises can be an important way for a new venture to position itself within an industry. Longterm success depends upon addressing the needs of all stakeholders and acting in a responsible manner. ■ Page 68 4.1 Venture Strategy A strategy is a plan or road map of the actions that a firm or organization will take to achieve its mission and goals. To be useful, the plan must be action-oriented and based on the firm’s opportunities, strengths, and competencies. The strategy also should be simple and clear, so that everyone in the organization can follow a commonly understood plan. The desired outcome of a strategy is a sustainable competitive advantage. A strategy is a response to opportunity. The word opportunity is derived from the Latin expression “toward the port.” The builder of value is like a merchant sea captain who secures the right payloads from the best customers, manages his crew, and adjusts his mix of established ports and new ports with high potential [McGrath et al., 2001]. Thus, the formulation of a sound strategy is based on deep knowledge of the opportunity, the industry, and its context. In describing the opportunity as a vision, a sense of drama and vitality emerges. With this vitality, the entrepreneur motivates the team and the investors to share the vision, embrace the strategy, and act on it. Strategies help to set a firm on a course and then focus everyone’s efforts. In fact, for some, the essence of strategy is choosing what not to do [Porter, 1996]. Often, a strategy emerges as actions are taken and tested, eventually converging toward a pattern [Mintzberg et al., 1998]. Because of the dynamic nature of the competitive business world, long-term planning is very difficult, meaning that the strategy also must be dynamic. Industries are not in equilibrium, and industry analysis is difficult. For example, it is hard to define where an industry begins and ends, and it is difficult to distinguish competitors from collaborators from suppliers. Thus, all strategies are subject to change and reemergence as conditions, alliances, and competition change. Table 4.1 summarizes the process for developing a strategy. Entrepreneurs start in the center of Figure 4.1 by building and aligning their capabilities, resources, and products. They then act on their initial strategy or business plan. Page 69 Entry into the competitive marketplace will force a reassessment of the marketplace and industry as well as their competitor analysis. Consequently, strategic managers adjust their mix of capabilities, resources, products, and actions to effectively compete in the dynamic market. How the internal management responds to a changing customer, industry, and competition is crucial in the reestablishment of the strategic plan. Venture leaders strive to identify the fundamental forces responsible for creating and capturing customer value. Those ventures that focus on continuously adjusting and aligning their strategies and capabilities will constantly evolve from one strategic position to the next strategic position in response to changing conditions. FIGURE 4.1 Framework for a firm operating in a dynamic marketplace. GE Aircraft Engines (GEAE) provides an example of an adjustment in a strategic plan as a result of changes in the market. GEAE had a product strategy to develop engines with more power, efficiency, and better reliability. Because of relentless competition and shorter product cycles, sustaining profitability was difficult. GEAE shifted to operating as an engine production and services provider, generating significant profits in the aftermarket services business [Demos et al., 2002]. Faced with a dynamic marketplace, the strategic leader develops a strategic response and adapts to the changes in the market. To summarize Figure 4.1, the first step is to determine the basic driving forces in the industry: the economic, demographic, technological, or competitive factors that either constitute threats or create opportunities. The second step is to formulate a strategy that addresses the driving forces identified in step 1. The third step is to create a plan to implement the new strategy. Finally, the new strategy is implemented by building and realigning the firm’s capabilities, resources, and products. Entrepreneurs define their strategy within their perception of opportunity. They are not constrained by the present resources or capabilities but seek to acquire the necessary resources and capabilities. The theory of resource dependence states that a company’s freedom of action is limited to satisfying the needs of customers and investors that give it the resources to survive [Hillman et al., 2009]. Investors and customers dictate how money will be spent because companies that do not satisfy them will be unable to survive. The six questions for creating a sound, dynamic strategy appear in Figure 4.2. With solid, effective answers to these six questions, a firm will have formed a strategy that has the potential to lead to profitability. FIGURE 4.2 The six questions for creating a dynamic strategy. Profitability rests on six solid answers to these questions. The development of a strategy often uses reasoning by analogy [Bingham and Kahl, 2013]. For example, Blue Apron began by asking, “Could we be the Uber of gourmet cooking?” Analogical reasoning makes efficient use of information, but it can be misleading if built on superficial similarities and inaccurate information. Thus, it is important to understand the source of the analogy and check the similarities. Ultimately, a strategy can be viewed as a plan that integrates a firm’s goals and actions into a cohesive whole that draws effectively on its resources and capabilities. The essence of strategy is choosing the priorities and deciding what to do and what not to do. The strategic priorities determine how a business is positioned relative to the alternatives. As the competitive conditions change, the new venture adjusts its strategy to meet the new conditions. 4.2 Core Competencies The core competencies of a firm are its unique capabilities and resources that enable it to implement its business model and thus deliver a valuable product or service to its customers. A capability is the capacity of the firm, or a team within the firm, to perform some task or activity. Thus, the capabilities of a firm include the collective learning in the organization, the skills of its people, and its ability to coordinate and integrate know-how and proprietary knowledge. Resources are human, physical, financial, and organizational, and include patents, brand, knowhow, and capital. It is the ability to use both capabilities and resources in a coordinated way that leads to distinctive core competencies—those activities that a firm does better than its competitors. To be competitive, a firm must have: (1) unique and valuable resources and the ability to exploit these resources, or (2) a unique ability to manage common resources. Intel possesses unique patent and know-how resources and the capabilities to exploit that knowledge and intellectual property. Ryanair and Southwest possess common resources—aircraft and aircraft equipment—but have unique capabilities to manage these resources. Core competencies are the critical asset of a technology venture. Unlike physical assets, core competencies do not deteriorate as they are applied and shared. In fact, they can grow as a firm learns to build its competencies. For example, the core competency of Intel is the ability to design and manufacture integrated circuits for computers and communication systems. The core competencies of 3M are in designing and manufacturing materials, coatings, and adhesives, and devising various ways of combining them for new, valuable products. Ideally, a firm’s core competencies will be rare, difficult for others to imitate, and difficult to substitute. Core competencies provide potential access to a wide variety of markets. For example, Honda’s core competencies in engines and power trains have enabled it to provide distinctive products for lawnmowers, motorcycles, automobiles, and electric generators. Core competencies are the wellspring of new business ventures. It is very important that the core competencies of a firm match the requirements of its business. Firms with core competencies that match those necessary to effectively implement their business model have the best chance to succeed. For example, the core competency of Google is the design and operation of massively scaled networked services. It is the dominant online search engine. After starting as a search tool for finding information on diverse subjects, it also has become the leader in the Internet advertising industry. It is now poised to leverage this same networked-services expertise with autonomous vehicles and mobile devices. We care about competencies since they are the roots of competitive advantage, as Section 4.6 will explain. Competitive advantage also depends, however, upon the firm’s industry and context, as we discuss in the next section. Page 72 4.3 The Industry and Context for a Firm A full description of the customer and the industry will help the entrepreneur build a sound strategic plan. The main elements of an industry analysis are given in Table 4.2. The first step is to accurately name and describe the industry in which the firm is or will be operating. The definition should be narrow and focused. An industry is a group of firms producing products that are close substitutes for each other and serve the same customers. Thus, selecting the transportation industry may be too broad. The definition of the industry should be more focused, such as “the ride-sharing industry in Dubai.” This is the definition with which Careem, the largest regional competitor for Uber in the United Arab Emirates (UAE), began. If data are not available for the targeted area of the market, the closest proxy should be used. For example, if statistics had not been available for Dubai, Careem might have considered Abu Dhabi or another metropolitan area in the UAE. Once appropriate data have been obtained, they can be used to define this market and describe the customer. Entrepreneurs can sometimes struggle to define the relevant industry, defining it too broadly or too narrowly. Defining the industry too broadly can obscure important differences between products, customers, or geographic regions. Defining the industry too narrowly can obscure important commonalities and linkages across related products or geographic markets [Porter, 2008]. The boundaries of an industry consist of two primary dimensions. The first dimension is the scope of products or services. For example, are smart windows used in residential applications part of the same industry as smart windows used in commercial applications, or are these different industries? The second dimension is geographic scope. Is competition limited to regions or states, or is it national or even international? Ultimately, defining an industry may be a matter of judgment. A good rule of thumb, however, is that if the competitors, substitutes, customers, or suppliers are significantly different, then the industries are probably distinct [Porter, 2008]. The second step is to describe the regulatory and legal issues within the industry. National, state, and local regulations should all be considered. Also, changes in regulations can influence both industry funding trends and particular types of companies within an industry [Sine et al., 2005]. The third step of Table 4.2 suggests describing the growth rate and state of evolution of the industry. Most industries tend to emerge through an initial period of slow growth with limited sales and few competitors. Then they expand through Page 73 a period of rapid growth as sales take off and many firms enter the industry. This is followed by a third period of maturation marked by slower growth and stability. Eventually, the number of firms in the industry declines [Klepper, 1997]. We depict in Table 4.3 these four stages as (1) emergence, (2) growth, (3) maturation, and (4) decline. It is important to know where your industry is in the evolution cycle. In the emergence phase, significant product and market uncertainty exists. Producers are unsure of what features are required for the product. Customers may be unsure of the elements of the product they need. Many technology ventures begin in the emergence phase of an industry. For a technology venture, an emerging industry will not yet have a dominant design and will respond well to new firms with a wealth of knowledge that can be used to build a powerful new venture [Shane, 2005]. The growth stage emerges when the necessary features and performance become clear and a dominant design emerges. A dominant design is one whose major components and core concepts do not substantially vary from one product offering to another. With the emergence of a dominant design, the number of competitors stabilizes. Eventually, an industry enters its mature phase as the number of competitors stabilizes and profit margins slowly decline as price becomes the primary competitive weapon. Finally, an industry enters a declining phase as the number of firms declines and profit margins erode. The personal computer market began in 1978 with a number of small, emerging firms such as Apple Computer. IBM entered the personal computer market in 1982, and its PC quickly emerged as the dominant design. Many other firms entered after IBM made the design open to all, and the PC industry experienced a growth phase between 1984 and 1998. Eventually, the market reached a period of maturity, with only a few dominant firms having standardized or slightly differentiated products and relatively stable sales and market shares. Table 4.2 shows that the next step in the industry analysis is a statement of the profit potential and the typical return on investment capital in the industry. The return on capital is defined as the ratio of profit to the total invested capital of a firm. The average return on capital in the computer software industry is about 16 percent, while the return on capital in the steel industry is about 6 percent. The steel industry is less attractive, while the computer software industry is attractive. One of the most effective ways to identify realistic profit opportunities for a new venture is to look at the Securities Exchange Commission filings of a young representative firm in the industry (www.sec.gov). The final step in Table 4.2 is to describe the competitors in an industry and the rivalry among them. To identify competitors, an entrepreneur can talk with potential customers; scan for competitors’ advertisements and marketing efforts; attend trade shows, conventions, and conferences; and join industry associations [Rose, 2016]. Technology ventures often have a large number of competitors. For example, more than 50 companies tried to find success with viral video sharing before YouTube [Dixon, 2011]. The presence of a large number of competitors does not make a proposed new venture a bad idea. In fact, it can signal a promising market. It does, however, suggest that it is critical for an entrepreneur to analyze the competitive forces in an industry and to differentiate accordingly. The five forces model, shown in Figure 4.3, is one popular method for evaluating the competitive forces in an industry. The five forces are: (1) threat of entry by new competitors, (2) threat of substitute products, (3) bargaining power of customers, (4) bargaining power of suppliers, and (5) firm rivalry [Porter, 2008]. The five forces model enables the analyst to consider all the issues facing a new entrant by describing the key industry factors. The rivalry among the industry competitors may be intense or modest. In some industries, the bargaining power of the customer may be modest. FIGURE 4.3 Five forces model. Consider the automobile industry, which has about 15 competitors. The rivalry is intense. The bargaining power of customers regarding a new vehicle is very high since they have access to broad information on the relative performance and prices of the products of the companies and their dealers. The bargaining power of the suppliers in the industry is modest. Furthermore, the threat of a substitute product is small. The threat of new entrants also is small, due to the costs of developing a new product and dealer network. Thus, the auto industry experiences intense competition, with the buyer wielding significant power. Consider the online bookselling industry: Amazon.com and Barnesand Noble.com are the two large online booksellers in the United States, but there are many regional competitors such as Powells.com. The rivalry among these competitors is high. Their suppliers have low bargaining power, and the barriers to entry are moderate. The bargaining power of the customer is large, resulting in low prices and modest profitability. The threat of substitute products is Page 75 low. However, e-books could undermine the printed book industry as devices such as Amazon’s Kindle and Barnes and Noble’s NOOK see increased adoption. By contrast, many new firms enter the computer software industry each year. The bargaining power of customers is moderate, and the threat of substitute products is low. As a result, profitability in the industry is high. However, the rivalry of the firms is intense. Ultimately, a competitive analysis explains how you will do better than your rivals. And doing better, by definition, means being different. Organizations achieve superior performance when they are unique, when they do something no other business does in ways that no other business can duplicate. In military competition, strategy refers to the large-scale plan for how the generals intend to fight and win a war. The word tactics, in contrast, refers to small-scale operations, such as the conduct of a single battle. Very few strategic plans survive the first contact with competitors. Instead, competitors respond and change the situation, and a business then adjusts its strategy. Complementors are companies that sell complements to the enterprise’s own product offerings. A complement is a product that improves or perfects another product. For example, the complementors to Microsoft’s Xbox One S Page 76 and the Nintendo Switch are the companies that produce the video games that run on these consoles. Without an adequate supply of complementary products, demand for the player product would be modest. Complements to the automobile include the interstate road system that enables automobiles to safely and rapidly travel long distances and the large number of dispersed filling stations that enable convenient refueling. By contrast, without suitable, widely located electric recharge stations, the future of electric vehicles may be very limited. (For this reason, Tesla is investing heavily in a network of charging stations.) The bargaining power of the suppliers depends, in part, on the number of suppliers and buyers. When the supplier industry is composed of many small companies and the buyers are few and large, the buyers tend to dominate the supply companies. An example is the automotive component supply industry, in which the buyers are few and large and dominate the many small suppliers. The entrepreneurial firm is likely to be a new entrant to the industry. Thus, the new venture should describe the barriers to entry, the threat of substitutes, and the bargaining power of the suppliers, customers, and complementors. One of the main factors that drives traditional analyses of the determinants of market structure involves comparing the size that a firm must be to compete efficiently to the overall size of the market in which it competes. If the industry has few firms, a new firm may be able to readily enter and gain market share. Using the five forces model, a new technology venture is likely to perform better when it operates in an industry with high barriers to entry, low threat of substitutes, low buyer power, low supplier power, and low rivalry. To complete the industry analysis, it will be necessary to name the competitors and describe the profitability of the industry. One method is to use Standard and Poors Reports or IBISWorld. For example, if the new firm is entering the medical devices industry, the leading competitors are Medtronic and GE, who collectively control almost 60 percent of the market. Using IBISWorld, we note that the profit margin is about 7 percent and growth is predicted to be under 3 percent. These measures suggest potential challenges. 4.4 SWOT Analysis Steps 4 and 5 of the management process for developing a strategic plan (Table 4.1) suggest that a strategy is based on the firm’s strengths and opportunities, while avoiding or mitigating its weaknesses and managing threats. As discussed in chapters 2 and 3, a new firm is focused on securing the capabilities and resources necessary to succeed in its industry. Furthermore, the new firm concentrates on an attractive opportunity that was selected using Table 2.6. Thus, a strategy addresses the four aspects of the setting in which a firm operates: (1) a firm’s strengths, (2) its weaknesses, (3) the opportunities, and (4) the threats in its competitive environment. This analysis is often called a SWOT analysis, which allows a firm to match its strengths and weaknesses with opportunities and threats and find the purpose for which it is best suited. A firm’s strengths are its resources and capabilities. Its weaknesses are its limitations of organization or lack of capabilities or resources. A firm’s opportunities are its chances for success in a new entry or product in its industry. The threats are actions or events outside its control in the competitive environment. A basic SWOT analysis for Amgen, a leading biopharmaceutical company, is given in Table 4.4. The SWOT analysis provides the questions for a strategic response and helps a firm exploit its strengths, avoid or fix its weaknesses, seize its good opportunities, and mitigate its threats. Examples of threats are market shifts, regulatory changes, and delays in product development. Positive opportunities include increasing demand, repeated use, and willingness to pay. We can examine opportunities in three dimensions, as shown in Figure 4.4: products, customers, and approach [Black and Gregersen, 2002]. Approach is the Page 78 method or means of taking the product to the customer. Perhaps the safest strategy is to take new products to existing customers via existing approaches. The most risky strategy would be a new product taken to new customers via a new approach. Amazon.com started selling books (existing products) to book buyers (existing customers) via a new approach—online. FIGURE 4.4 Three dimensions for examining opportunities. 4.5 Barriers to Entry Barriers to entry are factors that make it costly for companies to enter an industry. The greater the costs that potential competitors must bear to enter an industry, the greater are the barriers to entry. The six potential barriers to entry are in Table 4.5. Economies of scale can be a barrier in industries where the costs of production are low for a narrow range of volume or occur only for higher volumes. An example is the aircraft design and production industry. It is difficult to enter that industry since a low volume of production of aircraft is most likely uneconomic for the new entrant [Barney and Hesterly, 2014]. Cost advantages independent of scale may be held by existing companies and will deter a new company from entering. For example, incumbent firms may have proprietary technology, knowhow, favorable geographic locations, and learning-curve advantages. These can all be barriers to a new entrant. Product differentiation means that incumbent firms possess brand identification and customer loyalty that serve as barriers to new entrants. For example, Dell, Hewlett-Packard, and Apple have brand and customer loyalty, making it difficult for a new personal computer company to enter the industry on a large scale. Of course, this barrier may be less important to a specialty manufacturer that seeks a small niche in the personal computer market. A formidable barrier to entry is the reputation or brand equity of the incumbents. Providing ratings for bonds is an attractive industry since it is not asset-intensive and the profit margins are very good. If a new firm tries to enter this market, however, it will have to compete with Moody’s and Standard and Poor’s, both competitors with strong reputations. Contrived deterrence as a barrier occurs when incumbent firms strive to throw up unnatural barriers at a cost to them. They can use lower prices, newer products, or brand building to send a signal to potential entrants that intense responses will result if they try to enter. Page 79 Government regulation can also act as a barrier to entry. For example, a potential entrant to television broadcasting is deterred by government allocation of regular broadcast channels. A response to this limitation is for the new entrant to choose another means such as cable as the distribution channel—for example, the Fox Channel. Two kinds of economic markets exist: substitutable and nonsubstitutable. Substitutable products are commodities such as groceries, cola drinks, and gasoline. In a nonsubstitutable market such as semiconductor manufacturing equipment, the required associated infrastructure means that once purchasers choose a system, they are not inclined to switch due to high switching costs. Switching costs are the costs to the customer to switch from the product of an incumbent company to the product of the new entrant. When these costs are high, customers can be locked into the product of the incumbents even if new entrants offer a better product. An example is the cost of switching from Microsoft to the Apple computer operating system. Users would need to purchase a new set of software to use on the Apple computer as well as train their employees to use the new software. Low Barriers to Entry in Web 2.0 Web 2.0 startups have been attractive to some entrepreneurs because the market seems relatively easy to enter. To them, it is a growth industry with low barriers to entry. The cost to set up and host a website is relatively low. Creating a website requires technical and programming knowledge but modest capital investment. This industry offers an opportunity for entrepreneurs with little financial backing to create a product for a huge market quickly. Website services can easily be made accessible worldwide, without the need for physical distribution channels. 4.6 Achieving a Sustainable Competitive Advantage Ultimately, a firm strives to maintain a competitive advantage—those distinctive factors that give it a superior or favorable position in relation to its competitors. Competitive advantage brings together the firm’s core competencies and its strategic relationship within its industry. As shown in Figure 4.5, a firm uses its distinctive competencies to manage its innovation, efficiency, product quality, customer relations, and supplier relations in order to differentiate its product and manage its costs. A technology venture works to design and produce at low cost the highest-quality product that has unique differentiating factors. Four common strategies are niche, cost, differentiation, and combined differentiation and cost, as summarized in Table 4.6. FIGURE 4.5 Distinctive competencies lead to a competitive advantage. The niche strategy is directed toward one or two smaller segments of a larger market. This niche can be geographic or a product or price segment. Typically, Page 80 a niche business is too small for the mass-market supplier, and thus, competition is low. Niche businesses often are based on a focused core competency and good customer and supplier relationships. Niche ventures typically require less capital and achieve financial success rather quickly. The low-cost strategy is based on unique competencies that enable the efficient management of processes and logistics. Low-cost businesses aim for mass markets with little product differentiation. Snap Inc., creators of the Snapchat app, is an example of a low-cost tech firm. Unlike other social media platforms, whose maintenance costs are disproportionately sunk into storing (mostly inactive) user information, Snap Inc.’s application deletes user data (specifically, photos) after a short period. Thus, the company’s storage costs only scale with active users. Snapchat, however, allows for little product Page 81 differentiation. Intel’s Competitive Advantage Since the founding of Intel, its strategy was focused on technology leadership, first-mover advantage, and the dominance of important new markets. Intel emerged as the dominant supplier of microprocessors, which are used in 90 percent of personal computers. Intel is also a leading manufacturer of flash memory, embedded control chips, and communication chips. A unique competency is Intel’s ability to build, manage, and exploit the world’s best semiconductor manufacturing facilities. As an example of its technology leadership strategy, Intel announced a new material that will replace silicon, enabling Intel to build more density (transistors per area) while reducing heating and current leakage. For decades, Intel has had a successful differentiation strategy. Southwest Airlines is an example of an airline that started as a low-cost, niche business operating only in Texas. It served three cities—Dallas, Houston, and El Paso—and operated using standardized Boeing 737 aircraft. It used highly productive crews, frequent, reliable departures, and a no-frills (low-cost), short-haul, point-to-point system. Eventually, Southwest moved to other western states and many locations across the nation. Thus, its strategy evolved to a differentiation-cost strategy. Many profitable firms are built on differentiation: offering customers a unique offering based on a firm’s unique competencies. This unique offering can be in the product, service, or sales, delivery, or installation of the product. While the basic product may be a commodity, the differentiation can be obtained somewhere in the various interactions or services for the customer. Miox, a New Mexico–based venture that produces water purification systems, differentiates based on the product itself. Traditionally, water purification systems used volatile and hazardous chlorine gas. Miox developed a technology that allows their products to function using only salt and water (www.miox.com). Apple differentiates its portable devices by integrating multiple offerings. The iPod was introduced in 2001, but it was the iTunes online-music store, introduced in 2003, that caused the iPod to take off: Through 2002, Apple sold 600,000 iPods; yet with the introduction of the iTunes store in 2003, Apple sold more than 1.4 million iPods in that year alone. By the end of 2015, Apple had sold almost 400 million iPods. Similarly, Apple introduced the iPhone in 2007 and the App Store in 2008. With rapid growth in the number of applications, Apple was able to differentiate itself in the phone market. Following the success of the iPod and iPhone, Apple then made another strong move with the introduction of the iPad in 2010. Together, the iPod, iPhone, and iPad are easy-to-use, readily portable, and able to synchronize automatically with other Apple products including iTunes and iCloud. Integration has enabled Apple to clearly differentiate its offerings from the competition. Other firms differentiate themselves by offering high-quality service. For example, Zappos offers fast and free shipping, free returns, and highly trained customer service agents who are encouraged to do everything possible to make Zappos customers happy [Edwards, 2012]. Many firms can achieve a combined differentiation–low-cost strategy that blends the best of low cost and differentiation. For example, IKEA provides furniture to customers who are young, not wealthy, likely to have children, and work for a living. These customers are willing to forgo service to obtain low-cost furniture. IKEA designs its own low-cost, modular, and ready-toassemble furniture. In large stores, it displays a wide range of products. While IKEA is a lowcost provider, it also offers several differentiated factors, such as extended hours and in-store childcare. All firms seek to erode competitors’ advantages by acting to imitate their product or service attributes or innovation. A sustainable competitive advantage is a competitive advantage that can be maintained over a period of time—hopefully, measured in years. The duration, D, of a competitive advantage, CA, leads to the estimate of the market value, MV, of a firm as That is, the market value of the firm is proportional to the size or magnitude of the competitive advantage and dependent on the expected duration of that advantage. A pharmaceutical firm with a 20-year patent and a strong competitive advantage will be highly valued indeed! The sustainability or duration of a firm’s competitive advantage, D, is a function of the competitors’ difficulty in imitating or innovating around the incumbent’s unique product or service attributes. This difficulty is present when unique skills and assets are required and are hard for a competitor to replicate or obtain. A firm such as General Electric is said to have a sustainable competitive advantage in the electric power industry. It has higher profit margins than all its competitors in this field. The pyramid of value creation is in Figure 4.6. From a solid base of assets, a firm builds its capabilities, which lead to its core competencies. With its core competencies and knowledge, it develops new products, processes, and other activities to build a competitive advantage. The sustainability of a firm’s competitive advantage depends on its ability to continually innovate. Ultimately, the winning companies in the long term will be those that excel at learning how to do new things—not those who learn only how to improve existing practices [Reeves and Deimler, 2011]. FIGURE 4.6 Pyramid of value creation. In 1876, Sir Joseph Lister, a longtime advocate of improving sanitation conditions, was invited to speak at a medical conference in Philadelphia. In attendance was Robert Wood Johnson, who became inspired by Lister’s speech. In 1886, Johnson, joined by two of his brothers, started Johnson & Johnson in order to manufacture a line of sterile surgical dressings. After experiencing some success, the company diversified into other segments of the medical industry. The company now manufactures pharmaceuticals and medical devices for physicians and consumers alike. Their products, including Tylenol, Band-Aids, and Listerine, are well known and trusted in the United States. The core competency of Johnson Page 83 & Johnson is the ability to select and market trusted, useful products. Its consistency in doing so has allowed the company to retain a sustainable competitive advantage over the last century. See examples of 10 types of sustainable competitive advantage in Table 4.7. Of course, the role of these 10 types will vary by industry context. 4.7 Alliances Many businesses use competitive strategies to shape their business strategies but often ignore cooperative strategies. Business is a complex mix of both competition and cooperation— sometimes called “coopetition.” A new venture possesses valuable novelty and innovation that will attract the attention of suppliers, customers, competitors, and complementors, acting as a value network, as shown in Figure 4.7. All the participants are connected and participate in this network of activity. Consider the value network for a university, shown in Figure 4.8. The complementors to a university include kindergarten through grade-12 schools, local housing, community activities, and computing systems. All the members of the value network are connected together in the higher education value network. The university, to succeed, must cooperate with its suppliers, customers, competitors, and complementors. Competitors can be seen as rivals but also will be, in many instances, collaborators. FIGURE 4.7 Value network. FIGURE 4.8 Value network for a university or college. Many technology ventures offer products or services that require distinctive strategies because the products are parts of systems with complements provided by others. If a platform leader emerges and works with complementors, an ecosystem of innovation is formed [Gawer and Cusumano, 2008]. A platform strategy requires a compelling vision and strong leadership. A platform product or technology should provide a core function and be easy to connect for complementors. Examples of platform leaders are Google and Microsoft. The value network is important to entrepreneurial ventures as they strive to accumulate the resources and capabilities required for success. The value of exploiting complementary resources can be significant [Hitt et al., 2001]. For example, a smaller, new biotechnology firm and a large pharmaceutical firm Page 85 can both benefit from an alliance. The biotech firm provides new technologies and innovation, while the pharmaceutical firm provides the distribution networks and marketing capabilities to successfully commercialize the new products. The larger established pharmaceutical firm also gains value through access to its partner’s innovation. Thus, firms usually search for partners with complementary assets or capabilities. This is a partnership that enhances the value of each participant. Few startup firms will have all the necessary capabilities and resources. Alliance networks can enable them to move forward effectively. A partnership or alliance is an association of two or more firms that agree to cooperate with one another to achieve mutually compatible goals that would be difficult for each to accomplish alone. Proactive firms take the initiative rather than react to events. Proactive formation of strategic alliances is an important dimension of entrepreneurial activity that enables a new firm to acquire access to unowned but required strategic assets. All alliances are based on some exchange of knowledge in addition to a flow of products, capital, or technology. Alliances function best when mutual benefits and commitment are clear to all parties, and when organizations can develop trust and respect [Lavie et al., 2012]. Page 86 The benefits of alliances can be significant. Both firms learn and acquire new capabilities. Furthermore, they have access to complementary resources that they cannot easily duplicate. Thus, a firm’s decision to enter an alliance can be motivated by a desire to exploit an existing capability or technology, or to explore new opportunities and new technologies [Rothaermel and Deeds, 2004]. For example, firms with diverse alliance partners increase their ability to innovate [Phelps, 2010]. To select an alliance partner, a firm must be clear which missing capabilities or resources are required. Then, it must determine which firms have those assets and look at their characteristics. For example, an alliance between Uber and Facebook made in 2015 allows Facebook users to order rides directly from the messaging app, such that each company benefits from the other’s scaling. Startups with little track record may need to rely on the existing connections of their founders to establish these alliances [Hallen and Eisenhardt, 2012]. Entrepreneurs are well advised to visualize their alliance portfolios in the context of an entire industry, rather than as a series of single relationships. High-performing alliance portfolios emerge when entrepreneurs simultaneously form ties with multiple partners [Ozcan and Eisenhardt, 2009]. It also is wise to have redundancy among partners. For example, a startup might form partnerships with two different web hosting companies with servers at different data centers and on different networks in order to ensure reliability and flexibility [Dixon, 2011]. At the same time, alliances also place significant demands on an organization’s management capability, and too many alliances can harm a firm’s market valuation [Moghaddam et al., 2016]. Alliances also can lead to information leakage to competitors [Cox Pahnke et al., 2015]. For these reasons, too many alliances can actually harm an organization’s performance. Thus, it is critical to examine each potential alliance for both the benefits it brings and the time, resources, and attention it will require [Rothaermel and Deeds, 2006]. Cell Phones and Gaming As mobile phones became more and more popular, a significant opportunity arose for the development of software for these devices. In particular, significant potential was seen for sales of games for mobile phones. Jamdat developed a number of these games, including the popular Bejeweled. In order to distribute these games, it had to form an alliance with mobile phone service providers like Verizon Wireless and Cingular (now AT&T). The service providers controlled the only distribution channel for these games. Because of the partnerships it was able to establish, the company also served as a link between other game developers and service providers. Acting as a gaming publisher in this way is now one of the company’s main functions. Jamdat was purchased by Electronic Arts in 2006 and is now called EA Mobile. Keep in mind that complementor firms may also be potential competitors. Many a wellconceived alliance has fallen apart due to the tension between cooperative and competitive forces. Such tensions can arise from culture clashes, poor conflict management, and lack of effective coordination mechanisms. Furthermore, the entrepreneurial firm may be seeking access to needed assets but may, as a result, be exposed to the risk of losing its own vital internal knowledge. An example of this occurred during the development of the Apple Macintosh. Apple partnered with Microsoft to develop spreadsheet, database, and graphical applications for the Mac. As a result, Microsoft acquired critical knowledge about Apple’s graphical user interface products, which eventually enabled its engineers to develop the Windows operating system [Norman, 2001]. For these reasons, small firms may find it more advantageous to focus their alliances with large firms on manufacturing, marketing, and distribution as opposed to product development [Yang et al., 2014]. At the same time, knowledge sharing is important to maximize the success of a partnership. For example, Google Maps uses arrival estimate times from Lyft’s software in order to incorporate Lyft as one of the suggested modes of public transit. The type of alliance can range from a joint short-term project to a merger, as shown in Figure 4.9. FIGURE 4.9 Range of alliances dependent on commitment and control sharing. One approach to successful collaboration is to rotate leadership roles over the course of a project. Alliances continually dominated by a single organization or by the need to have consensus around every decision, by contrast, are associated with less innovation [Davis and Eisenhardt, 2011]. Table 4.8 outlines five other, simple rules for effectively managing alliances [Hughes and Weiss, 2007]. Page 88 4.8 Matching Tactics to Markets A company can be said to be successful if it outperforms its competitors over time. Another view of how to formulate the best strategy for a venture is to match the firm’s approach to the pace of the market. Table 4.9 summarizes three competitive approaches [Eisenhardt and Sull, 2001]. The first approach is based on establishing a position in an industry and defending it. The goal is to position the company so that its capabilities provide the best defense against the competitive forces of Figure 4.3 [Porter, 1998]. Furthermore, the positioning approach can be defended by anticipating shifts in the five forces of Figure 4.3 and responding to them. Page 89 The second method focuses on resources, such as patents and brand, and attempts to leverage those resources against the resources of the competitors. For example, Google released its first smartphone, the Pixel, in 2016, offering exclusive distribution rights to Verizon. Thanks to Google’s powerful brand, Verizon stores were out of stock within three months. The third approach may be called emergent and is based on flexible and simple rules [Eisenhardt and Sull, 2015]. Firms using this method to develop a strategy select a few significant strategic processes and build simple rules to guide them through the ever-changing marketplace. The strategic processes could be innovation, alliances, or customer relationships. Apple, for example, has chosen its user interface design, customer relationships, and customized proprietary products as its basic strategy. It then adjusts this strategy as conditions require. Cisco Systems used an innovation strategy to guide it through emergent opportunities for its first years of operation. Later, it changed to a basic strategy of acquisitions to respond to rapidly changing markets. These basic tenets for guidance in emerging markets may be called simple rules and are summarized in Table 4.10 [Eisenhardt and Sull, 2015]. These rules allow a firm to compete in a fast-moving marketplace such as the emergent markets that many technology ventures start in. A good way to understand strategic planning in emerging industries is to imagine an American football team trailing by a touchdown with only two minutes left to play, and it has the ball. The team refuses to panic. It has well-established rules of play for this situation. It switches to the “no-huddle” offense, with the quarterback calling the plays at the line of scrimmage as he surveys the defense. Uncertainty is endemic in strategy formulation. Thus, the quality of a strategy cannot be fully assessed until it is tried. Strategy making can be thought of as an organizational capability, where different approaches are generated and considered, and where past successful approaches are just options for the future among many. Table 4.11 highlights several key factors for determining a successful strategy [Shepherd et al., 2000]. The most attractive strategy is led by a team that has strong competence in an industry that has not yet built up intense rivalries. The timing of entry may be favorable in these circumstances. Finally, entrepreneurs should recognize that every business strategy is unique since it is a unique mix of resources, context, goals, competencies, and organizational values. The potential for differentiation of a firm’s strategy can occur anywhere along the consumption sequence shown in Figure 4.10, since firms can use unique methods, tools, or arrangements at each step in the sequence [McGrath et al., 2001]. Every new technology venture should look at the consumption sequence and decide where it can differentiate its product or service. FIGURE 4.10 Consumption sequence. The power of computer maker Dell, for example, is its direct sales model offered to three different customer segments. The Dell direct sales model incorporates all 15 steps of the consumption sequence. On the other hand, CDW (www.cdw.com) acts as a middleman reseller for Hewlett-Packard and offers excellent customer service for the purchaser who needs help in choosing a Page 91 computer. Its large sales force helps customers choose a total system that fits them, and a single salesperson is assigned to each customer for follow-up and later purchases. The CDW sales model incorporates steps 3 through 10 of the consumption sequence. 4.9 The Socially Responsible Firm Any strategy adopted by a new venture firm inevitably affects the welfare of its stakeholders: customers, suppliers, stockholders, and the community. While a specific strategy may enhance the welfare of some stakeholders, it may harm others. The leaders of new ventures are challenged to build a strategy that attempts to meet the economic and social needs of stakeholders while protecting the social and environmental needs of its region. An explicit statement of a new firm’s strategy for acting responsibly and ethically may be an appropriate part of a business plan [McCoy, 2007]. The quality of life on our planet depends on three factors, as illustrated in Figure 4.11. The quality of life in a society depends on equity of liberty, opportunity, and health, and the maintenance of community and households, which can be called Page 92 social capital, or social assets. The growth of the economy and the standard of living are critical needs for all people; we call this economic capital, or economic assets. Finally, the environmental quality of a region or the world can be called natural capital. The interrelationship between these three factors adds up to the total quality of life. Quality of life includes such basic necessities as clothing, shelter, food, water, and safe sewage disposal. Beyond that, quality of life includes access to opportunity, liberty, and reasonable material and cultural well-being. FIGURE 4.11 Three interrelated factors that determine the quality of life on our planet. Business, government, and environmental leaders need to build up capabilities for measuring and integrating these three factors and using them for decision making. We define the sum of these factors as the triple bottom line. As they strive to treat nature and society respectfully while enhancing people’s quality of life, corporations need to use nature only for what is necessary and in balance with what can be recycled and replenished. Recognizing the interconnectedness and interdependence of all living things, corporate leaders can seek a balance using the triple bottom line concept. Economics, ecology, and society can be portrayed as a whole that depends on the person, the corporation, cultural values, and the community. Decisions made by corporations or society need to account for all three factors of the triple bottom line. For many people, there is a presumption that a company exists to enhance the welfare of society at large. For others, the only goal is the maximization of profits. We assert that the public welfare can be in the best interest of the corporation itself [Wang and Bansal, 2012]. One of the purposes of a firm is to make a profit—but service to society is also an implied expectation. In many ways, socially responsible behavior—remembering its obligations to its employees, its communities, and the environment, even as it pursues profits for shareholders—is in a firm’s self-interest. A growing number of companies make corporate responsibility part of their value proposition. For example, Henry Ford believed he should pay his workers enough to afford to buy the cars they produced. His decision ultimately benefited Ford Motor Company by making it an attractive employer and stimulating demand for its products. Moreover, social responsibility can serve as an important differentiator for a firm [Russo, 2010]. Some of the best companies in history have tended to pursue a mixture of objectives, of which making money is just one—and not necessarily the primary one. For Merck, a top priority is patient welfare. For Boeing, it is advancement of aviation technology. Profitability is a necessary condition for existence, but it is not the end in itself for many visionary companies. Consider Johnson & Johnson, whose credo, published in the early 1940s, was the basis for its response to the 1982 Tylenol crisis, when a cyanide tampering incident caused the deaths of seven people in the Chicago area. The company quickly removed all Tylenol capsules from the entire U.S. market at a cost of $100 million, though the deaths occurred only in Chicago. The social virtue matrix of Figure 4.12 illustrates the four possible responses to social responsibility challenges. The response of the lower-left Page 93 quadrant (box 3) is conduct that corporations engage in by choice, in accordance with norms and customs. The lower-right quadrant (box 4) represents compliance—responsible conduct mandated by law or regulation [Martin, 2002]. These two lower quadrants represent the basic commitment of companies to society’s values and laws. Actions in the two lower quadrants (boxes 3 and 4) of Figure 4.12 generate little credit since the public expects actions to be in compliance with its laws and norms. The most significant impediment to the growth of corporate virtue is limited vision for actions beyond compliance and allegiance to society’s norms. FIGURE 4.12 Social virtue matrix. Nebia: Offering Luxury Showers While Saving Water Nebia is one startup that combines a profit mission with a social mission. Cofounder Carlos Gomez Andonaegu used to be a health spa owner in Mexico City, and he would often balk at his water bills. Mexico’s capital city, with more than 20 million people in the metropolitan region, sits at an altitude of 7,000 feet and is near no major natural water sources. Gomez Andonaegu set out to design a shower that reduced water usage and improved the shower experience. Nebia’s shower heads spray millions of tiny water droplets that emulate a spa experience and reduce water usage by 70 percent. The two upper quadrants encompass activities that have high social virtue. The strategic benefits quadrant (box 1) includes activities that may add to shareholder value by generating positive reactions from customers, employees, or legal authorities. These actions may ultimately benefit the firm by accruing customer goodwill and community support [Russo, 2010]. The upper-right quadrant (box 2) encompasses activities that clearly benefit society or the environment, but at a cost to the corporation. An example of a firm active in the upper-left quadrant (box 1) is Patagonia, founded by Yvon Chouinard in 1979 as a designer, marketer, and distributor of high-performance outdoor wear with a commitment to protect the natural environment. The firm sought the use of low-impact fibers and drifted to organic cotton by 2000. Patagonia considered three criteria during the design and development of a project: its quality, its impact on the environment, and its aesthetics. In support of its commitment to sustainability of the environment, the firm featured a speaker series of prominent environmentalists. Furthermore, it often shared information with other clothing firms regarding the use of environmentally favorable fabrics. One great opportunity to enter business in the top-left quadrant (by offering strategic corporate and social benefits) is to stimulate commerce at the bottom of the economic pyramid. For example, an entrepreneur can help the world’s poor by partnering with them to innovate new products and services that are valuable and profitable [Prahalad, 2005]. While individual incomes may be low, the aggregate buying power of poor communities is actually quite large, representing a substantial market in many countries. In these markets, entrepreneurs need to reconsider their focus on high gross margins and shift toward securing good returns on invested capital while delivering social and environmental benefits [Prahalad and Hammond, 2002]. Environmental challenges represent another opportunity to enter business in the top-left quadrant. Businesses that combat environmental degradation can be both profitable and socially beneficial [Dean and McMullen, 2007]. New technologies and business models can help build a sustainable world incorporating clean energy, drought-resistant crops, sound fish farming, biodiversity, and much more [York and Venkataraman, 2010]. Non–fossil fuel sources of energy such as wind, solar, hydro, geothermal, and biofuels will be developed over the next 10 years as we shift to lower-impact fuel systems. New technology ventures will emerge as entrepreneurs find new means for big opportunities [Sachs, 2008]. Actions in the upper-right quadrant (box 2) of Figure 4.12 may ultimately engender benefit for shareholders. However, actions that provide benefits to society at a cost to a firm are difficult to defend to shareholders. For example, if only one automaker had decided to add air bags, it would lose some profits. When such an addition is mandated, all automakers can provide added social benefits at a competitive cost. Corporate coalitions, in which firms agree to provide benefits despite the costs, can also help firms take action in the upper-right quadrant. The public wants information about a company’s record on social and environmental responsibility to help decide which companies to buy from, invest in, and work for. As an example, see the Starbucks website at http://www.starbucks.com/responsibility. Starbucks estimates that it saved more than $40 million because the company’s socially responsible actions increased employee loyalty and reduced turnover. The Mexican cement company Cemex helps low-income families construct concrete homes, helping to tackle housing problems while connecting the company with a large and untapped market [Austin et al., 2007]. Good deeds can redound to a company’s Page 95 credit. But, they can also backfire if the company fails to live up to the good-neighbor image it tries to project. Twelve highly ranked, socially responsible companies are listed in Table 4.12. 4.10 Spotlight on Uber Uber is a San Francisco–based ride-sharing company founded in 2009 by Garrett Camp and Travis Kalanick. Camp is an example of a serial entrepreneur who has a history of founding companies and moving from one idea to another. Camp also founded StumbleUpon, which was acquired by eBay for $75 million, and Expa, which has raised $150 million. Since beginning operations in San Francisco, Uber has aggressively expanded across the world. Uber’s competitive advantage over taxi companies has spawned many legal battles. Uber has also faced competition from other ride-sharing companies, like San Francisco–based Lyft, Bangalore and India-based Ola, and Beijing-based Didi Chuxing. In China, Uber and Didi Chuxing engaged in a furious competition that ended when the companies came to what amounted to a truce. Uber took an 18 percent share in Didi and $1 billion in cash, merging Uber’s China unit with Didi. Part of the reason for Uber changing its strategy was the barrier to entry in China, which China-based Didi better understood. Before this, Didi had invested in Uber’s competitors, putting $100 million into Lyft and $20 million into Ola. Their new alliance with Uber prevents Didi from providing new funding to Uber competitors. Uber has also had the competitive advantage of assembling its huge pool of drivers willing to drive for the service. However, over the next decade, Uber will likely adopt the use of autonomous cars, eventually phasing out most of its drivers. It appears that Uber has decided to abandon its current advantage to adapt to a changing technology landscape. 4.11 Summary The strategy of a new business venture is its plan to act to achieve its goals. Given the challenge of an important problem (opportunity), the strategy provides a road map for the new firm to act to achieve a profitable solution to the problem. The strategy is designed to solve the problem by creating a unique and Page 96 sustainable way of acting that, it is hoped, will lead to a profitable and valuable outcome for the customer and the firm. A solid strategy is based on: ▪ Recognition of the firm’s core competencies. ▪ Sound knowledge of the industry and the context for the venture. ▪ A deep understanding of the firm’s strengths and weaknesses as well as its opportunities and threats. ▪ A solid competitor analysis and review of the five forces encountered by firms in a rival market. ▪ A strategic design that can lead to a sustainable competitive advantage. ▪ A choice of a differentiation, low cost, differentiation and low cost, or niche strategy that provides unique value to the customer. ▪ Formation of productive alliances with others and always acting in a socially responsible manner. Principle 4 A clear road map or strategy for a new enterprise states how it will act to achieve its goals and attain a sustainable competitive advantage in a socially responsible manner. Video Resources Visit http://techventures.stanford.edu to view experts discussing content from this chapter. Neutralizing Competition is a Speed Game Sustainable Advantage Make Bookkeeping Less Taxing Geoffrey Moore Julia Hartz Scott Cook Wildcat Venture Partners Eventbrite Intuit 4.12 Exercises 1. 4.1 Zipcar offers a sophisticated form of car sharing (www.zipcar.com). The firm opened for business in Boston in late 2000. Describe the strategy of Zipcar using the six questions of Figure 4.2. Is the Zipcar strategy sustainable, and will it lead to profitability? 2. 4.2 1. Podcasting, blogging, online photo sharing, online video, and tweeting are five technologies that are enabling a much broader set of content publishers and content consumers. Describe the nature of these industries and analyze the competitive situation using all five forces in Figure 4.3. 2. 4.3 Nektar is an innovative drug delivery company that creates differentiated products to allow for the inhalation of a number of medicines. Examine Nektar’s website and publicly available information. Describe Nektar’s strategy using Tables 4.6 and 4.9. 3. 4.4 During the 1990s, DVD players became widely available, and the rental DVD market took off. Netflix (www.netflix.com) initiated an online DVD rental service, creating a new market. Examine the Netflix website and determine the firm’s basic strategy. What are the challenges to its strategy? Consider the timing of the initiation of Netflix: was it too early or right on time? How have Amazon and Apple tried to differentiate their online services from Netflix? 4. 4.5 Google.org is Google’s outreach arm. The organization provides funding and guidance to socially conscious technology entrepreneurs. Visit its website, describe the social mission, and state how this fits into Google’s broader corporate mission. 5. 4.6 Identify a technology company that incorporated more than 100 years ago. Describe the industry and context for the firm today. Describe a significant industry and context shift for the firm in its history. Has the firm maintained a sustainable competitive advantage in the markets it competes in? If so, how? 6. 4.7 Many online search competitors are moving to compete in the mobile local search market. Providing location-tailored information to mobile phones is expected to be a large opportunity for both wireless carriers and local advertisers. Select one of these mobile local search companies and create a value network for this company (e.g., Figure 4.7). VENTURE CHALLENGE 1. 2. 3. 4. Develop a SWOT analysis using the format of Table 4.4. Select your strategic approach from Table 4.6. Create a partnership strategy as described in Section 4.7. Describe your strategy in one or two sentences that could be circulated to your employees and allies. 5. Why and how will your venture be socially responsible?
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