\f6e Foundations in Strategic Management Jeffrey S. Harrison Robins School of Business University of Richmond Caron H. St. John College of Business Administration University of Alabama in Huntsville Australia Brazil Japan Korea Mexico Singapore Spain United Kingdom United States Copyright 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. This is an electronic version of the print textbook. Due to electronic rights restrictions, some third party content may be suppressed. Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. The publisher reserves the right to remove content from this title at any time if subsequent rights restrictions require it. For valuable information on pricing, previous editions, changes to current editions, and alternate formats, please visit www.cengage.com/highered to search by ISBN#, author, title, or keyword for materials in your areas of interest. Copyright 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. Foundations in Strategic Management, 6e Jeffrey S. Harrison and Caron H. St. John Senior Vice President, LRS/Acquisitions & Solutions Planning: Jack W. 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For your course and learning solutions, visit www.cengage.com Purchase any of our products at your local college store or at our preferred online store www.cengagebrain.com Printed in the United States of America 1 2 3 4 5 6 7 16 15 14 13 12 Copyright 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. Preface Foundations in Strategic Management treats core topics and current issues in the field directly and concisely without compromising learning. With just eight chapters, it flows at a brisk pace. While it is half the size of standard texts, Foundations covers all major strategic management topics, including classic and modern theory; draws on the contributions of leading authors in the field; and interlaces all its presentations with current debates, current perspectives, and current examples. Foundations gives you strategy at its most essential along with the option to build a course to your own particular specifications: to add your own readings, to run a simulation, to select your own cases, to experiment with exercisesin short, to customize your course to suit your teaching style and goals. Three theoretical foundations, above all other concerns, influenced the shape of this book: (1) (2) (3) The Traditional Strategic Management Process Model. This approach is based primarily on applications of industrial organization economics and other classic writings from a wide range of the pioneers in the field. The Resource-Based View (RBV) of Strategic Management. The emphasis in RBV is on acquiring and managing resources that help a firm develop sustainable competitive advantage. Stakeholder Theory. The stakeholder perspective views the firm at the center of a network of contacts with whom mutually beneficial relationships are formed. Effective management of these relationships, and the stakeholder network itself, can enhance competitive performance. Stakeholder theory is also inherently ethics based, which provides a nice balance for the more economically based theories. CURRENT TOPICS Issues of current relevanceincluding global interconnectedness, economic cycles, hypercompetition, cooperative strategies and social networks, restructuring, corporate innovation and entrepreneurship, corporate governance, business ethics, and sustainabilityare treated with depth and sophistication and incorporate cutting-edge research findings. Combined with traditional discussions of environmental analysis, organizational analysis, strategic thinking, strategic leadership, strategic direction, strategy formulation, and strategy implementation, the field's newest trends stay linked to our focus on strategic managementthat is, on strategies and strategic decisions that seek to create a future for an organization with long-range, or \"strategic,\" planning as a central concern. Issues associated with the service sector and technology-focused businesses are reflected throughout the text in examples, concepts, assumptions, and inferences. ACADEMICALLY SOLID, GLOBALLY ENGAGED Foundations pays particular attention to the fundamentals of strategic management and takes a traditional approach to topical organization. Chapter 1 covers the strategic management process and strategic thinking. Chapter 2 discusses the external iii Copyright 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. iv Preface environment, including both the broad and task environments. Chapter 3 treats the internal environment and examines how internal resources are associated with competitive advantage. Chapter 4 covers elements of strategic direction and strategic leadership. Chapter 5 discusses business-level strategy. Corporate-level strategy is tackled in Chapter 6. Chapter 7 focuses on implementation issues, including creation and integration of functional-level strategies, organizational structure, organizational culture, and fostering innovation and entrepreneurship. Chapter 8 treats strategic control and restructuring. The important topic of global strategy is covered in each of the chapters through integration of international concepts, applications, and examples. For Instructors Instructors of strategic management face significant challenges fitting all the material they may want to cover into a single capstone course. We are mindful of these challenges and believe we have written a text that is uniquely supportive of including a broad range of supplemental materials such as cases, exercises, simulations, and research projects. We also provide standard teaching resources with the text, including an instructor's manual, test bank, and presentation slides. Instructor's Manual with Test Bank. The Instructor's Manual with Test Bank includes lecture outlines and a bank of test questions. PowerPoint Presentation Slides. Over 150 PowerPoint slides are available to supplement course content. To download now, visit Foundations' supporting website at http://harrison.swcollege.com. For Students The decision-making tools you develop during this course are relevant to all levels of an organization and should also help you in your own personal planning. You would not be long on the job before you discover that the techniques of strategic management, such as those required to pull together an industry or organizational analysis, are highly applicable to all types of firms, including small entrepreneurial firms and nonprofits. In addition, the material contained in this book will help you understand, appreciate, and think critically about trends of current and future importance to the business community. Studying strategic management will help you become better prepared to deal with important issues in our increasingly complex, increasingly global business environment, regardless of your position or of the industry in which you work. We strongly encourage you to apply the concepts of strategic management to your own employment and career planning decisions. Many of our students have told us that their understanding of strategic management impressed recruiters and allowed them to ask perceptive questions during interviews. ACKNOWLEDGMENTS In developing this text, we would like to acknowledge the efforts of an outstanding staff at Cengage, as well as the many reviewers, students, and colleagues who have contributed so much to enhancing the value of this book. We are also grateful to our families for their continuing support that made this project possible. Copyright 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. To Marie, for unbounded enthusiasm and never-ending support Jeff To my daughters, Ashley and Kimberly Caron Copyright 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. About the Authors Jeffrey S. Harrison is the W. David Robbins Chair of Strategic Management at the Robins School of Business, University of Richmond. Prior to his current appointment he served as the Fred G. Peelen Professor of Global Hospitality Strategy at Cornell University. He helped organize the Stakeholder Strategy Interest Group of the Strategic Management Society and has served in a variety of leadership positions for that group. In association with the Strategic Management Society and the European Institute for Advanced Studies in Management, he and Ed Freeman organized a special conference in Barcelona in 2011 on stakeholder theory that attracted scholars from more than two dozen countries. He serves on the editorial review board of Strategic Management Journal and previously served for nine years on the board of Academy of Management Journal. He and Ed Freeman have guest edited special issues on stakeholder themes in Academy of Management Journal and Academy of Management Executive. Dr. Harrison's research interests include strategic management and business ethics, with particular expertise in the areas of corporate strategy and stakeholder theory. Much of his work has been published in prestigious academic journals such as Academy of Management Journal, Strategic Management Journal, and Journal of Business Ethics. He has authored or coauthored ten books, including Strategic Management of Organizations and Stakeholders; Managing for Stakeholders: Survival, Reputation and Success; and Mergers and Acquisitions: A Guide to Creating Value for Stakeholders. Dr. Harrison has also provided consulting and executive training services to many companies on a wide range of strategic, entrepreneurial, and other business issues. Caron St. John joined the University of Alabama in Huntsville as the Dean of the College of Business Administration in Spring 2010. Previously she was the Associate Dean of Graduate Programs, Research and Outreach, in the College of Business and Behavioral Science at Clemson University, with responsibility for MBA programs, Executive Education programs, the Spiro Institute for Entrepreneurial Leadership, the Small Business Development Center, and the Renaissance Center. In 2007, Dr. St. John was the winner of the Dr. Charles Townes Award for Individual Achievement in Innovation for contributions to innovation and entrepreneurship in the upstate of South Carolina, and in January 2010, she was recognized by Greenville Business Magazine as one of the 50 most influential people in Greenville, South Carolina, for 2009. She was also recognized by the Greenville Chamber of Commerce with a Special Chairman's Award for Education in Business for 2009. Dr. St. John has served as the principal investigator or coprincipal investigator on grants from the National Science Foundation and U.S. Department of Commerce totaling over $1.5 million and has published research in leading management journals including the Academy of Management Review, Strategic Management Journal, Operations Management Journal, Organization Research Methods, Computers and Operations Research, and Production and Operations Management. vi Copyright 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. Contents CHAPTER 1 The Strategic Management Process 2 What is Strategic Management? 4 External and Internal Environmental Analysis 5 Strategic Leadership and Strategic Direction 6 Business and Corporate Strategy Formulation 7 Strategy Implementation and Control 8 Strategic Restructuring 9 Alternative Perspectives on Strategy Development 9 Industrial Organization Economics 10 The Resource-Based View of the Firm 11 The Stakeholder Perspective 11 A Combined Approach 14 Strategic Thinking in a Turbulent Global Environment 14 Key Points Summary 17 Notes 18 CHAPTER 2 The External Environment 22 The Broad Environment 25 Sociocultural Forces 25 Economic Forces 27 Technological Forces 28 Political/Legal Forces 30 The Task Environment 30 Forces That Drive Industry Competition and Profitability 31 Managing External Stakeholders 36 Cooperative Strategies and Alliance Networks 37 Global Business Environments 39 Evaluating a Foreign Investment Environment 40 Competitive Advantages of Nations 40 Key Points Summary 42 Notes 43 CHAPTER 3 Organizational Resources and Competitive Advantage 46 The Strategic Value of Internal Resources and Capabilities 48 Sustainable Competitive Advantage 48 Resource Interconnectedness 50 Human Resources 51 Physical Resources 53 Financial Resources 54 Knowledge and Learning Resources 56 General Organizational Resources 57 vii Copyright 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. viii Contents Resource Analysis and the Development of Strategy 59 Value Chain Analysis 59 Basic and Support Activities 59 Using Value Chain Analysis to Guide Strategy 61 Firm Performance 62 Traditional Financial Performance Measures 62 Broader Stakeholder-Based Measures of Firm Performance 63 Key Points Summary 65 Notes 66 CHAPTER 4 Strategic Leadership and Strategic Direction 70 Strategic Leadership 72 Primary Leadership Responsibilities 72 Effective Strategic Leaders 73 Top Management Teams 74 Corporate Governance 75 Agency Problems 76 Strategic Direction 78 Influences on Strategic Direction 78 Organizational Mission and Vision Statements 80 Business Definition 81 Organizational Values and Purpose 82 Codes of Ethics 83 Corporate Social Responsibility and Sustainable Development 85 Key Points Summary 86 Notes 87 CHAPTER 5 Business-Level Strategies 92 Generic Business-Level Strategies 95 Differentiation 95 Low-Cost Leadership 96 Best Cost 99 Focus 99 Business Models 100 Competitive Tactics 102 Growth Strategies 102 Offensive Tactics 102 Defensive Tactics 104 Collaborative Tactics 105 Political Tactics 105 Avoidance (Blue Ocean) Tactics 106 Strategic Flexibility 106 Strategies in an International Context 107 International Growth Tactics 107 Business-Level Strategies in Multiple International Markets 107 Changes in Strategy Over Time 109 Key Points Summary 112 Notes 113 Copyright 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. Contents CHAPTER 6 Corporate Strategies ix 116 Development of Corporate Strategy 119 Concentration 119 Vertical Integration 120 Diversification 122 Diversification Methods 126 Internal Ventures 126 Mergers and Acquisitions 126 Strategic Alliances and Joint Ventures 128 Portfolio Management 130 Boston Consulting Group Matrix 130 The General Electric Business Screen 132 Key Points Summary 134 Notes 134 CHAPTER 7 Strategy Implementation 140 Functional Strategies 142 Marketing Strategy 143 Operations Strategy 146 Research and Development Strategy 146 Human Resources Strategy 147 Financial Strategy 148 Information Systems Strategy 149 Organizational Structure 150 Standard Structural Forms 150 More Complex Structures 154 Foreign Subsidiaries 155 Organizational Culture and Energy 155 Fostering Innovation and Entrepreneurship 156 Key Points Summary 158 Notes 159 CHAPTER 8 Strategic Control and Restructuring 162 Strategic Control Systems 164 Feedback Controls 166 Concurrent Controls 169 Feedforward Controls 170 Comprehensive Strategic Control Systems 171 Strategic Restructuring 173 Refocusing Corporate Assets 173 Retrenchment 174 Chapter XI Reorganization 174 Leveraged Buyouts 175 Structural Reorganization 175 Dealing with Economic Cycles 176 Key Points Summary 178 Notes 178 Copyright 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. x Contents Appendix Preparing a Strategic Analysis 182 Structuring an Environmental Analysis 182 Industry Analysis 183 External Stakeholders and the Broad Environment 183 Factors that Influence Demand and Cost Structures 184 Strategic Issues Facing the Industry 185 Structuring an Organizational Analysis 185 Evaluation of the Internal Environment 185 Identification of Resources and Capabilities 186 Evaluation of Strategies and Business Model 186 Identification of Sources of Competitive Advantage 187 Developing a Strategic Plan 188 Strategic Direction and Major Strategies 188 Evaluation of Opportunities and Recommendations 188 Implementation and Control 190 A Note to Students 190 Index 191 Copyright 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. Foundations in Strategic Management Copyright 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. 1 The Strategic Management Process What Is Strategic Management? External and Internal Environmental Analysis Strategic Leadership and Strategic Direction Business and Corporate Strategy Formulation Strategy Implementation and Control Strategic Restructuring Alternative Perspectives on Strategy Development Industrial Organization Economics The Resource-Based View of the Firm The Stakeholder Perspective A Combined Approach Strategic Thinking in a Turbulent Global Environment Key Points Summary Notes Copyright 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. S T R A T E G Y I N F O C U S Whole Foods Market J ohn Mackey, Co-CEO of Whole Foods Market, probably could not have imagined what he would be doing today when he and his girlfriend opened up a vegetarian food store in an old Victorian-style home in Austin, Texas, in 1978. Whole Foods now has over 300 supermarkets and more than 56,000 employees, called team members. At the core of Whole Foods is a simply stated stakeholder philosophy: Our \"bottom line\" ultimately depends on our ability to satisfy all of our stakeholders. Our goal is to balance the needs and desires of our customers, Team Members, shareholders, suppliers, communities and the environment while creating value for all. By growing the collective pie, we create larger slices for all our stakeholders. Our core values reflect this sense of collective fate and are the soul of our company.1 This philosophy is supported by a set of core values of selling high-quality products, delighting customers, supporting team members to achieve happiness and excellence, caring about the community and environment, creating long-term win-win partnerships with suppliers, and promoting health through education. Whole Foods has been very successful at taking care of its team members. In fact, for 14 years in a row the company has been listed as one of the best companies to work for by Fortune magazine. Its team members enjoy large discounts on store purchases and a variety of benefits that are voted on every three years and include such things as massage therapy, yoga, and language classes. The company is very open and honest with information that most companies keep secret, such as the pay of every team member. Managers and executives are screened by a panel of peers, and regional presidents are selected in town-hall style. Financially the company has thrived, with continuous growth in operating income since the beginning of the \"Great Recession\" that started around the end of 2007. Earnings per share have also increased and revenues have grown in every year except 2009, when they were flat. Whole Foods has done this while also providing healthy eating education in its stores, launching a new Whole Kids Foundation dedicated to promoting children's nutrition, opening wellness clubs, and supporting a program that offers microcredit to poor people in developing nations to help them work their way out of poverty. The company also rolled out a new rating standard that recognizes producers for improving the welfare of animals and providing this information to customers. In addition, the company labels household products based on their impact on the environment.2 3 Copyright 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. 4 Foundations in Strategic Management The most successful organizations are able to acquire and manage resources and capabilities that provide competitive advantages. Furthermore, they are capable of managing and satisfying a wide range of external constituencies, called stakeholders. Top managers play a pivotal role in this process, as they help their companies interpret trends in the external environment, lead in the development of strategies, and oversee their execution. In the Whole Foods example, we see a values-driven company led by a visionary leader, John Mackey, who has been able to guide the company successfully through very difficult economic times. The processes associated with evaluating the competitive situation of a company, acquiring and managing resources, and developing and executing strategies are a part of the field generally referred to as strategic management. WHAT IS STRATEGIC MANAGEMENT? Strategic management is the process through which organizations analyze and learn from their internal and external environments, establish strategic direction, create strategies that are intended to help achieve established goals, and execute those strategies, all in an effort to satisfy key organizational stakeholders. A simple model of the strategic management process is illustrated in Exhibit 1.1. The model is not rigid, but simply represents a useful sequence in which to frame the central topics of strategic management. For a firm engaged in a formal strategic planning process, the activities will likely occur in the order specified in the model. In other situations, the activities may be carried out in some other order or simultaneously. The dotted arrows in Exhibit 1.1 indicate that organizations often cycle back to earlier activities during the strategic management process. Exhibit 1.1 The Strategic Management Process External and Internal Analysis External Environment (Chapter 2) Internal Environment (Chapter 3) (Chapter 4) Strategy Formulation Business Level (Chapter 5) Corporate Level (Chapter 6) Strategy Implementation and Control Strategy Implementation (Chapter 7) Strategic Control (Chapter 8) Strategic Restructuring (Chapter 8) Cengage Learning Strategic Direction Copyright 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. Chapter 1 5 The Strategic Management Process External and Internal Environmental Analysis External environmental analysis, discussed in Chapter 2, involves evaluation of the broad and task environments to determine trends, threats, and opportunities and to provide a foundation for strategic direction. The broad environment consists of domestic and global environmental forces such as sociocultural, technological, political, and economic trends. The broad environment forms the context within which the firm and its task environment exist. The task environment consists of external stakeholders. External stakeholders are groups or individuals outside the organization that are significantly influenced by or have a major impact on the organization.3 Examples of external stakeholders include customers, suppliers, competitors, government agencies and administrators, and a variety of other external groups that have a stake in the organization. Many of the stakeholders and forces that have the potential to be most important to organizations are shown in Exhibit 1.2. All of the external stakeholders should be analyzed at both the domestic and international levels. In all of the countries in which a company operates, managers must interact with government agencies, competitors, and activist groups and manage the organization within the countries' sociocultural, political, economic, and technological contexts. Thus, Exhibit 1.2 contains both a global and a domestic dimension. Internal stakeholders, including managers, employees, and the owners and their representatives (e.g., board of directors), also have a stake in the outcomes of the organization. A fully developed internal analysis includes a broader evaluation of all of the organization's resources and capabilities to determine strengths, weaknesses, and opportunities for competitive advantage, and to identify organizational vulnerabilities (threats) that should be corrected. Internal analysis is the subject of Chapter 3. Often the results from external and internal analyses are combined into a SWOT analysis, which stands for strengths, weaknesses, opportunities, and threats.4 Exhibit 1.2 The Organization and Its Environments The Broad Environment Sociocultural Forces Technological Forces The Task Environment Suppliers Government Agencies and Administrators Customers Unions The Organization Owners/Board of Directors Managers Employees Financial Intermediaries Economic Forces Activist Groups Local Communities Political/Legal Forces Cengage Learning Competitors Copyright 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. 6 Foundations in Strategic Management Strengths are firm resources and capabilities that can lead to a competitive advantage. Weaknesses are resources and capabilities that a firm does not possess but that are necessary, resulting in a competitive disadvantage. Opportunities are conditions in the broad and task environments that allow a firm to take advantage of organizational strengths, overcome organizational weaknesses, and/or neutralize environmental threats. Threats are conditions in the broad and task environments that may stand in the way of organizational competitiveness or the achievement of stakeholder satisfaction. An organization's managers consider the results from this analysis as they identify strategic alternatives and formulate strategies. The general idea is that strategies should be formulated to take advantage of internal strengths and opportunities arising from the external environment, to overcome internal weaknesses, or to neutralize threats found in the external environment. As illustrated by the downward pointing arrows in Exhibit 1.1, analysis of the external and internal environments provides an organization with a foundation for all of the other tasks of strategic management. For example, strategic direction is an outcome of melding the desires of key organizational stakeholders with environmental realities. Strategic Leadership and Strategic Direction Strategic leaders have a large impact on the strategies and performance of a firm.5 For example, Sam Palmisano, CEO, reinvigorated IBM through an emphasis on innovation in fast growing areas such as analytics and supercomputing as well as international growth.6 He envisions IBM at the center of smarter technologies to help save energy and time. He frequently speaks of a smarter planet, which is \"the infusion of intelligence into the way the world actually works: the systems and processes that enable physical goods to be developed, manufactured, bought and sold; services to be delivered; everything from people and money to oil, water and electrons to move; and billions of people to work and live.\"7 For instance, a team of 70 IBM scientists and engineers worked for five years to develop what the company calls \"stream\" computing. This technology allows companies to analyze data as it is received rather than waiting until it is in a database. One of the most important responsibilities of a strategic leader is to establish direction. Strategic direction pertains to the enduring goals and objectives of the organization. It encompasses a definition of the businesses in which a firm operates, the firm's vision for the future, and its purpose. As a practical matter, there is no way to discuss purpose without also including a discussion of the ethics of the organization. Ethics are the moral standards by which people judge behavior. Business ethics, then, pertain to the moral obligations of businesses to individuals, groups (such as stakeholders), and society as a whole. More often than not, an organization's ethics are discussed in terms of its values. Organizational values define what matters when making decisions and what is rewarded and reinforced. For instance, organizations may promote values such as honesty, service, hard work, quality, or responsible treatment of stakeholders. The values espoused by Whole Foods, examined at the beginning of this chapter, focused on what the company does for its stakeholders. Strategic direction may be contained, in part, in a mission statement. Unlike shorter-term goals and strategies, the mission is an enduring part of planning processes within the organization. Some missions are short. For example, \"Google's mission is to organize the world's information and make it universally accessible and useful.\"8 This mission focuses on defining Google's business. Merck Group, Copyright 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. Chapter 1 The Strategic Management Process 7 the pharmaceutical giant, has a more comprehensive mission statement that encompasses both business definition and organizational values: We, the management and employees, are striving for entrepreneurial success. Entrepreneurial success starts with people. Our goal is to operate a worldwide business that produces meaningful benefits for consumers, our market partners and our community. Through efficient research and development, production and marketing of pharmaceutical and chemical specialties, we want to extend opportunities to our customers. To achieve this, we focus our endeavors on business areas where we can achieve a competitive advantage through the excellent quality of our products, systems and services. Our objective is to establish permanent business relationships and not merely short term success. On the basis of these principles, we operate as an independent and profit oriented enterprise. We expect a high level of performance from each other, and reward this accordingly. We wish to secure an acceptable return on capital for our investors. We respect the cultural distinctions and national interests of all countries in which we operate. We strive to achieve positive recognition for our company within the community. Merck attaches particular importance to its responsibility for safety. We have an obligation to respect the environment. We will deal honestly and constructively with one another. We regard open communication, both internal and external, as a fundamental prerequisite for reaching an understanding of our common goals and for giving meaning to what we do. We shall not be constrained by borders between business areas or countries. All employees, male or female, have equal opportunities to develop their careers. All of us make a personal contribution to the company's entrepreneurial success through our mutual initiative, creativity and sense of responsibility.9 A well-established strategic direction provides guidance to the managers and employees who are largely responsible for carrying it out. A motto that accompanies the mission statement reads simply, \"We at Merck do what we say and then measure ourselves on this basis.\"10 This sort of mission can also provide external stakeholders with a greater understanding of the organization and what it is seeking to accomplish. Since strategic leadership and strategic direction are so important to strategic management, Chapter 4 is devoted to these topics. Business and Corporate Strategy Formulation A strategy is an organizational plan of action that is intended to move an organization toward the achievement of its shorter-term goals and, ultimately, toward the achievement of its fundamental purposes. Strategy formulation is often divided into three levelscorporate, business, and functional, as shown in Exhibit 1.3. Business strategy formulation, discussed in Chapter 5, pertains to domain direction and navigation. In other words, it describes how businesses compete in the areas they have selected. Business strategies are also sometimes referred to as competitive strategies. Corporate strategy formulation, the subject of Chapter 6, refers primarily to domain definition, or the selection of business areas in which the organization will compete. Although some firms, such as Southwest Airlines, are involved in just one basic business, diversified organizations such as General Electric and Sony are involved in several different businesses and serve a variety of customer groups. Copyright 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. 8 Foundations in Strategic Management Exhibit 1.3 Strategy Formulation in a Multibusiness Organization Corporate Level Business 1 Business 2 (Domain Direction/Navigation) Marketing Finance Operations (Domain Direction/Navigation) Research (Functional Level: Implementation and Execution) Human Resources Cengage Learning (Domain Definition) Functional strategy formulation contains the details of how the functional areas such as marketing, operations, finance, and research and development should work together to achieve the business-level strategy. Thus, functional strategy is most closely associated with strategy implementation, found in Chapter 7. Another way to distinguish among the three types of strategies is to determine the organizational level at which decisions are made. Corporate strategy decisions are typically made at the highest levels of the organization by the CEO and/or board of directors, although these individuals receive input from other managers. If an organization is involved in only one area of business, then business strategy decisions tend to be made by the same people. In organizations that have diversified into many areas, the different areas may be represented by different operating divisions or lines of business. In those situations, business strategy decisions are made by division heads or business unit managers. Functional decisions are made by functional managers, who represent organizational areas such as operations, finance, personnel, accounting, research and development, or information systems. Strategy Implementation and Control Strategy formulation results in a plan of action for the organization and its functions, business units, and divisions. On the other hand, strategy implementation represents a pattern of decisions and actions that are intended to carry out the plan. Strategy implementation (Chapter 7) involves creating the functional strategies, systems, structures, and processes needed by the organization to achieve strategic ends. Functional strategies outline the specific actions that each function must undertake to convert business- and corporate-level strategies into actions. Without a translation of all of the plans into specific actions, nothing will change. Organizational systems are developed to train and compensate employees; assist in planning efforts; reinforce organizational values; and gather, analyze, and convey information. Organizational structures reflect the way people and work are organized, which includes reporting relationships and formation into work groups, teams, and departments. Processes, such as standard operating procedures, are developed to create uniformity across the organization and promote efficiency. Strategy implementation may require changes to any of these factors as the organization pursues new strategies over time. Good control also is critical to organizational success. Strategic control, the topic of Chapter 8, refers to the processes that lead to adjustments in the strategic Copyright 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. Chapter 1 The Strategic Management Process 9 direction, strategies, or the implementation plan when necessary. Managers may collect new information that leads them to reevaluate their assessment of the environment. They may determine that the organizational mission is no longer appropriate or that organizational strategies are not leading to the desired outcomes. On the other hand, the strategic control system may tell managers that the environmental assumptions, mission, and strategies are appropriate, but the strategies have not been well executed. In such an instance, adjustments should be made in the implementation process. As noted earlier, the strategic management process is usually not as sequential or linear as implied by the previous discussion. The activities are usually performed simultaneously, with constant adjustments to assumptions, direction, strategies, and processes as new information is learned and new assessments are made. Strategic Restructuring At some point in the life of every organization, growth will slow down and some stakeholders will begin to feel dissatisfied. For example, for years American automakers have had great difficulty competing with foreign automakers. Satisfaction levels of customers, workers, and shareholders reached new lows during the major economic downturn that began in late 2007. Financial firms also found themselves in difficult circumstances. Many firms in these two industries restructured. Even without a major economic crisis, most large and many smaller organizations eventually feel the need to reevaluate their strategies and the way they are executing them. Restructuring, discussed in Chapter 8, typically involves a renewed emphasis on the things an organization does well, combined with a variety of tactics to revitalize the organization and strengthen its competitive position. Popular restructuring tactics include refocusing corporate assets on a more limited set of activities, retrenchment (a turnaround strategy that often includes liquidating assets and layoffs), Chapter XI reorganization, leveraged buyouts, and changes to the organizational structure. Chapter 8 also includes a section on dealing with economic cycles. Now that the strategic management process has been described, we will establish a theoretical foundation upon which the rest of the book will be based. Then we will turn our attention to the trends that are moving organizations quickly into a global playing field. ALTERNATIVE PERSPECTIVES ON STRATEGY DEVELOPMENT The field of strategic management blends a wide variety of ideas representing many functional areas of business. This diversity may be one reason that scholars and practitioners have not been able to agree on a standard set of theories (i.e., paradigm) to guide the field. Nevertheless, some ideas are more widely adopted than others. For example, you have already been introduced to a very popular strategy formulation technique called SWOT analysis. The next several sections contain a brief explanation of some of the other major theories and ideas upon which our model of the strategic management process is based. These theories are summarized in Exhibit 1.4. Other important theories are woven into the chapters where they are most applicable. Copyright 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. 10 Foundations in Strategic Management Exhibit 1.4 Major Perspectives Influencing Strategic Management Industrial organization economics Firm performance is, in part, a function of the industries in which the firms compete. Industry performance is a function of structural characteristics and the behavior of firms in the industry. Managers can increase firm performance by devising strategies in conformance with industry characteristics or by leading their firms to compete in high-performing industries. Resource-based view An organization is a bundle of resources. The most important management function is to acquire and manage valuable, unique, inimitable, and nonsubstitutable resources such that the organization enjoys sustainable competitive advantage leading to high financial performance. Stakeholder management Firms manage a value-creating system of stakeholders. The primary role of managers is to foster mutually beneficial relationships with stakeholders, leading to competitive advantage. Firms that treat their stakeholders well create more value, which is also associated with higher financial performance. Industrial Organization Economics Early in the development of the field now called strategic management, the external environment was considered the primary determinant of which strategies would likely be successful.11 Environmental determinism suggests that good management is associated with determining which strategy will best fit environmental, technical, and human forces at a particular point in time, and then working to carry it out.12 From a deterministic perspective, the most successful organization will be the one that best adapts to existing forces. The field of industrial organization economics, which examines factors that lead some industries to be more profitable than others, provided ample theory upon which early strategic management scholars could draw. The industrial organization economics perspective is frequently referred to as the structure-conduct- performance model. The basic argument is that the performance of an industry is dependent on the conduct of the firms it contains, which is dependent on the structure of the industry.13 Structure may be defined as factors that determine the competitiveness of the market, such as demand conditions, supply conditions, technology, and barriers to the entry of new firms.14 The industrial organization economics perspective has contributed significantly to the field of strategic management over the years, especially in understanding industry environments and how firms can deal with external forces. Consequently, Chapter 2 on the external environment draws heavily from this literature. However, environmental determinism is no longer accepted as the absolute or even the primary guide for formulation of strategies. After a critical review of environmental determinism, a well-known researcher once argued: There is a more fundamental conclusion to be drawn from the foregoing analysis: the strategy of a firm cannot be predicted, nor is it predestined; the strategic decisions made by managers cannot be assumed to be the product of deterministic forces in their environments ... On the contrary, the very nature of the concept of strategy assumes a human agent who is able to take actions that attempt to distinguish one's firm from the competitors.15 Copyright 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. Chapter 1 The Strategic Management Process 11 Research supports the idea that while firm performance is determined, in part, by characteristics of the industries in which it participates, those characteristics are not the primary determinant of performance.16 The notion of adaptation has been supplemented by the principle of enactment, which assumes that organizations do not have to submit to existing forces in the environmentthey can, in part, shape their environments through strategic actions.17 However, it is not necessary to completely reject determinism and the view that organizations should adapt to their environments or the more modern view that organizations can alter their environments through enactment. In reality, the best-run organizations are engaged in processes of adaptation and enactment simultaneously, influencing those parts of the environment over which the firm can exercise some control and adapting to environmental circumstances that are either uncontrollable or too costly to influence. The Resource-Based View of the Firm Another perspective on strategy development has gained wide acceptance in recent years. It is called the resource-based view of the firm and has its roots in the work of the earliest strategic management theorists.18 According to this view, an organization is a bundle of resources, which fall into the general categories of (1) financial resources, including all of the monetary resources from which a firm can draw; (2) physical resources such as plants, equipment, locations, and access to raw materials; (3) human resources, which pertain to the skills, background, and training of individuals within the firm; (4) knowledge and learning resources, which help the firm to innovate and remain competitive; and (5) general organizational resources, which include a variety of factors that are peculiar to specific organizations. Examples of general organizational resources include the formal reporting structure, management techniques, internal planning systems, knowledge found in the organization and the systems that help to create it, organizational culture, organizational reputation, and relationships within the organization, as well as relationships with external stakeholders.19 If a resource that a firm possesses has value in allowing a firm to take advantage of opportunities or neutralize threats, if only a small number of firms possess it, if the organization is aware of the value of the resource and is taking advantage of it, and if it is difficult to imitate, either by direct imitation or substitution for another resource, then it may lead to a sustainable competitive advantage.20 A sustainable competitive advantage is an advantage that is difficult to imitate by competitors and thus leads to higher-than-average organizational performance over a long time period.21 For example, Toyota has been able to create and maintain a highperformance knowledge-sharing network with its suppliers and other stakeholders that has led to very high levels of efficiency and innovation.22 Many strategy scholars believe that effective acquisition and development of organizational resources is the most important reason that some organizations are more successful than others.23 Substantial research evidence exists to support the idea that the characteristics of the resources firms possess influence their financial performance.24 The resource-based perspective forms the basis for internal analysis found in Chapter 3. The Stakeholder Perspective The stakeholder perspective of strategic management considers the organization from the perspective of the internal and external constituencies that have a strong interest in the activities and outcomes of an organization and upon whom the Copyright 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. 12 Foundations in Strategic Management organization relies in order to achieve its own objectives. It is helpful to draw a distinction between stakeholder analysis and stakeholder management. Stakeholder analysis involves identifying and prioritizing key stakeholders, assessing their needs, collecting ideas from them, and integrating this knowledge into strategic management processes such as the establishment of strategic direction and the formulation and implementation of strategies. Organizations should use the information they collect from stakeholders to develop and modify their strategic direction, strategies, and implementation plans. Organizations can also use information from stakeholders to predict stakeholder responses to their own strategic actions. Stakeholder management, on the other hand, includes communicating, negotiating, contracting, and managing relationships with stakeholders and motivating them to behave in ways that are beneficial to the organization and its other stakeholders. In reality, the processes associated with stakeholder analysis and management are overlapping. For example, a firm may use a survey both to collect information on customer needs and to communicate information about a new service. One of the questions that the stakeholder perspective attempts to answer is how much attention the firm should pay to satisfy the needs of particular stakeholders. Managers tend to devote attention to stakeholders that possess resources the firm needs to be successful or those that have the ability to influence business outcomes through political or coercive means.25 On the other hand, the principle of fairness suggests that a firm should pay the most attention to the needs of stakeholders that contribute the most to the value a firm creates.26 High-priority \"primary\" stakeholders tend to rank high on the fairness criterion and frequently also possess resources the firm needs. They include shareholders, employees, managers, customers, suppliers, communities, and a variety of other individuals and groups that vary in their importance depending on the situation of the firm and its industry. For instance, labor unions are a primary stakeholder in unionized industries. Many successful organizations have learned that productive and mutually beneficial relationships with stakeholders can lead to competitive advantages.27 Some of these advantages, and the value they create, are outlined in Exhibit 1.5. This sort of management is sometimes called \"managing for stakeholders.\" Managing Managing for Stakeholders and Value Creation Primary Stakeholders Nature of Relationships Shareholders Employees Managers Customers Suppliers Communities Others Trusting Respectful Mutually beneficial Sources of Competitive Advantage Excellent reputation More attractive to stakeholders Ability to obtain better resources Ability to obtain valuable information Greater ability to plan Strategic flexibility Potential for Value Creation Sales growth Efficiency Fewer negative actions Less risk Cengage Learning Exhibit 1.5 Copyright 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. Chapter 1 The Strategic Management Process 13 for stakeholders implies that more resources are allocated to satisfy the needs of stakeholders than might be necessary simply to retain their participation in the productive activities of the firm.28 This sort of management means that firms incur greater costs as, for example, they provide better wages and benefits to their employees, give back to the communities in which they operate, and provide highquality products or outstanding service to customers at prices that are perhaps a little lower than they might otherwise charge. The reason managing for stakeholders is economically feasible is because it leads to behavior on the part of stakeholders that helps the firm create more value than might otherwise be created. This philosophy was reflected by Whole Foods example at the beginning of this chapter: \"By growing the collective pie, we create larger slices for all our stakeholders.\"29 Well-treated stakeholders reciprocate by treating the firm well in return.30 Examples of this sort of behavior include customers that express loyalty by buying more products or employees that work a little harder. In addition, highly skilled potential employees are likely to be attracted to the best employers.31 Also, community leaders are more likely to cooperate when a stakeholder-oriented firm has needs, whether this means approving a plant expansion or providing tax breaks. Firms that manage for stakeholders enjoy excellent reputations that make them more attractive to potential stakeholders, making it easier to attract business deals and obtain better resources. Strategic flexibility is increased as the firm is presented with a larger number of better business opportunities from which to select.32 Mutual benefit may also motivate stakeholders to reveal valuable information that the firm can use to create even more value. For instance, a supplier may be willing to provide information about a new technology to a firm if it believes that it will share in some way in the value that is created from the technology. Such information can spur innovation and help a firm to plan better for the future. Stakeholder cooperation and innovation can also enhance the efficiency of a firm's operations. Finally, costs associated with creating and enforcing contracts are minimized because there is a higher level of confidence that the parties will actually follow through on agreements.33 Trust is essential to unlocking all of these value-creating benefits.34 That is, a stakeholder is going to provide sensitive and potentially valuable information only to a trustworthy firm. Similarly, trustworthiness unlocks the benefits associated with reciprocal behavior and attraction of stakeholders. In addition, a firm with a trustworthy reputation can avoid value-destroying outcomes such as legal suits, adverse regulation, consumer boycotts, strikes, walkouts, and bad press.35 Avoiding negative stakeholder responses can reduce expenses as well as the risks a business faces.36 Because of increased global competition and technological complexity firms are more dependent than ever on the trust of their stakeholders. However, according to an ethics expert, stakeholders who believe that they have been misgoverned by bribes, sickened by emissions, or cheated by products tend, over time, to lose trust in the firm responsible for those actions.37 So what is the bottom line? Do the benefits associated with managing for stakeholders exceed the additional costs? Research evidence supports the view that firms that manage for stakeholders have higher financial performance.38 Stakeholder theory does not, however, suggest that firms should be wasteful. Managers should exercise prudence when determining how much time, attention, and other Copyright 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. 14 Foundations in Strategic Management resources to allocate to any particular stakeholder. Allocating too much value to stakeholders may result in a situation in which the firm is not able to sustain its core production or innovation processes. For example, General Motors ran into trouble because its wages and benefits packages were so high (due to a strong union) that the company neglected innovation for many years, resulting in automobiles that were not attractive to consumers at the prices it had to charge to stay in business. A Combined Approach The strategic management process model upon which this book is based relies, to a great extent, on each of the theories and ideas that have been described in these sections. They are complementary rather than competing perspectives. For instance, industrial organization economics does an outstanding job of examining economic and industry forces, which are critical to formulating strategy and are not addressed adequately by the other perspectives. The stakeholder perspective and resourcebased view are complementary because an organization is dependent on its stakeholders for most of the resources it acquires and develops.39 Consequently, for a firm to be successful it needs good working relationships with its stakeholders and those relationships, in turn, can be a source of competitive advantage. For example, a firm that has excellent relationships with its financial intermediaries is in a better position to obtai