Strategy and Competitive Advantage - Literature review Example

Strategy and Competitive Advantage Word count: 2007 "Strategy is the outcome of a formal strategic planning process from top management. Therefore, it has limited value in providing the organisation with a competitive advantage." If there is a business in which this statement is believed to be true, its stakeholders ought to be seeking replacements for the top management. ‘Providing the organisation with a competitive advantage’ is the whole point of developing a strategy. In order to understand how this must be the fundamental objective of strategy, it is necessary to clearly define what strategy is in a business context, what it means to have a competitive advantage, and how the formal strategic planning process leads from the former to the latter. Strategy In most literature about business strategy, it seems that what strategy is, exactly, is taken for granted and not well-defined, which could be a clue to why it is sometimes unclear what strategy is supposed to accomplish. The Business Dictionary defines strategy as “[an] alternative chosen to make happen a desired future, such as achievement of a goal or solution to a problem,” and the “art and science of planning and marshalling resources for their most efficient and effective use.” (BusinessDictionary.com, 2010) Michael Porter, one of the leading experts in business strategy and planning, defines it as “an overall plan for a diversified company,” which “makes the corporate whole add up to more than the sum of its business unit parts,” but at the same time he acknowledges that, “...almost no consensus exists about what corporate strategy is, much less how a company should formulate it.” (Porter, 1987: 43) But author Bruce Henderson – writing in a book co-edited by Professor Porter, incidentally – gives a slightly more concise and useful definition of strategy as “...a deliberate search for a plan of action that will develop a business’s competitive advantage and compound it.” (Henderson, 1991: 5) Rather than characterise strategy as “a search for a plan” as Henderson puts it, we usually think of strategy as being a plan. Strategy is the context in which actions are taken by a business to achieve a particular objective or set of objectives. Competitive Advantage Like strategy, “competitive advantage” is a concept for which the definition usually seems to be just assumed rather than explicitly stated. Identifying a business that has a competitive advantage might seem easy at first; the company which has a bigger market share, sells more, and earns more revenue than all its competitors is the one with the competitive advantage. But on the other hand, that might not be entirely accurate. For example, everyone knows that Microsoft and Apple have enormous numbers of customers and earn far more revenue than any of their competitors, and have obvious competitive advantages. But a small software company with a comparatively small number of customers may earn more than it expects, have a higher profit margin than bigger companies, and have loyal repeat customers. In relative terms, the small company may be just as healthy and sustainable as Microsoft and Apple, and perhaps even more so if the difference in scale is overlooked. From its point of view, the small company also has competitive advantages. So a simple indication of competitive advantage based on “who’s the biggest” or “who earns the most” does not completely explain what the result of competitive advantage is, and certainly does not explain how a business gains a competitive advantage. Professor Richard Rumelt of UCLA describes the definition of competitive advantage as one in which the common theme is “value creation.” Put another way, the business which can “create value” more effectively than its competitors has the competitive advantage. (Rumelt, 2003: 1) The next obvious question then is, “What is value?” Professor Rumelt gives a couple examples of how other scholars have defined competitive advantage. Quoting Michael Porter, he says “that ‘competitive advantage grows fundamentally out of value a firm is able to create for its buyers that exceeds the firm’s cost of creating it.’” (Ibid.) Other examples include earning superior financial returns over a long-term period, producing goods or services that are either more highly valued by customers or a lower cost than those of competitors, or having superior return to shareholders than competitors. (Ibid.: 2) The differences in these ideas suggest that “value” in the context of competitive advantage does not necessarily mean the same thing to every business. The example of the small software company above could have several different kinds of value; value in good profits, i.e. the difference between costs and revenue earned, value to customers in a superior or a unique product, and value to its shareholders in steady returns. Since value can mean different things from one business to the next, and since there can be different kinds of value even within one business, perhaps one useful way to think of competitive advantage is in the way implied by Shin (2001: 164-165): optimising the circumstances of Porter’s Five Forces – threat of new entrants, competitive rivalry among existing firms, threat of substitutes, bargaining power of suppliers, and bargaining power of customers – using the marketing mix of the “Four P’s” of product, price, promotion, and position. In this context, the Five Forces represent the environment in which the company must exist and perform, and the marketing mix comprises the strategy that is devised to perform as optimally as possible in that environment. The Strategic Planning Process Of course, not all strategy appears to be directly related to the marketing mix of the product or service offered by the business. Strategy can be devised to address the forces of the competitive environment directly, and in that case, might actually appear to have “limited value in providing the organisation with a competitive advantage.” For example, compare the overall strategies of two competitors, pharmaceutical companies GlaxoSmithKline and AstraZeneca, as they described them to their shareholders in their 2009 Annual Reports. GSK listed three strategic priorities, including diversifying and expanding its global business, developing more “products of value,” particular vaccines and consumer over-the-counter health and hygiene products, and simplifying its operating model by consolidating some departments and operations and reviewing and streamlining processes. (GSK, 2009) The key strategies at AstraZeneca, by comparison, were described as “strengthening the pipeline,” or improving its supply chain and its process of development, testing, and production, expanding and improving the efficiency of its operations, and making improvements in the areas of corporate responsibility and management and workforce accountability. (AZ, 2009) Between the two companies, only GlaxoSmithKline specifically targeted an aspect of the marketing mix in its corporate strategy, in this case the ‘P’ for ‘product’ in making the development of new vaccines and expanding its consumer product line – things like toothpaste and lip balm – a priority. AstraZeneca, on the other hand, focused on things like processes and performance. Apart from the direct focus on developing new products, GSK’s strategy affects the marketing mix in several ways. Expanding the business improves positioning by accessing new markets. Depending on how this is done, this objective can improve products and promotion as well, if the expansion involves acquiring smaller companies or developing new parts of the business that give the corporation new competencies and products. Simplifying and streamlining the company’s operations should have a positive effect on price; either costs will be reduced while product prices remain about the same, in which case profits will improve, or the reduction in costs can be passed along to customers as lower prices while the profit margin remains the same. The first alternative means that the benefits from the ‘P’ for price are collected by the company directly; the second means the direct benefit is to the consumers, which presumably will benefit the company with one further step of attracting more customers, which also improves positioning. AstraZeneca had some of the same goals of expansion and improving operational efficiency, and would achieve the same benefits if those were carried out successfully. The company’s third goal, improving corporate responsibility and accountability, would most likely have a positive impact on promotion. The ‘value’ to the consumer would be the impression that AZ had some higher purpose than simply making money, and by purchasing medicines from the customer would play a small part in that. According to Professor Rumelt, however, those sorts of objectives do not constitute a strategy, but rather what he calls “a resource budget.” (Lovallo and Mendonca, 2007) He believes that what most companies consider a “strategy” is simply “co-ordinating the deployment of resources” that “cannot deliver...a pathway to higher performance.” (Ibid.) He goes on to say that there are really only two ways to achieve that; a company can either invent something completely revolutionary – he uses Apple’s iPod as an example – or it can “exploit some change in its environment,” whether that might be technology, consumer demand, competitive behaviour, changes in regulations, or changes in the prices of resources. (Ibid.) What Professor Rumelt describes in his interview, in so many words, is the process of gaining a competitive advantage in the context of Porter’s Five Forces: focusing the company’s strengths and main efforts towards whichever of the forces upon it is weakest. Technology represents a threat of substitutions; if the company takes advantage of the technology before its competition does, it controls the substitutions. Changes in consumer demand are the same thing as changes in the bargaining power of consumers, at least in one way – product choice in this case instead of price – so if the company successfully meets the demand and does so better than the competition, this force upon the company becomes weaker. Competitive behaviour that becomes stronger in relation to the company obliges it to seek an advantage in another area, or if it has the strength, meet it head on; weaker competitive behaviour should mean the company can gain an advantage in terms of one or more – or maybe all four – of the other forces. Changes in laws or regulations affect the competitive behaviour, bargaining power of consumers, or bargaining power of suppliers depending on what the regulations address. Prices of resources, of course, affect the bargaining power of suppliers. Going back to the original proposition, "Strategy is the outcome of a formal strategic planning process from top management. Therefore, it has limited value in providing the organisation with a competitive advantage," it seems the only way in which it could be true is if the organisation is purposefully avoiding developing a strategy to sustain and improve the business. “Strategy” in the broadest, most basic sense that it can be considered is simply an organisation saying, “This is what we intend to do.” Whether what the organisation is doing is actually “strategy” or what Professor Rumelt would call “resource deployment,” why the organisation is doing it is the same basic reason: to maximise the company’s strengths and the opportunities presented by its environment, to improve on its weaknesses, and respond to or defend itself against the threats presented by its environment. Since very few organisations exist as unique, single occupiers of a market or industry, and none exists in a vacuum, the success of how it responds to its environment is always relative; the difference between its success and the other organisations to which it relates equals competitive advantage or disadvantage. But, there is one other thing to consider about the statement: a “formal strategic planning process from top management” may imply that the strategy is developed at the top and trickles down through the organisation to the level of business units and individual functions. As Porter points out in his discussion of strategy in diversified companies, that is the wrong approach: competitive strategy is developed from the bottom up, to optimise the organisation’s performance in each of the environments in which it operates; corporate strategy, the part that comes from “top management” should concern itself with getting “more than the sum of its parts” by co-ordinating and enabling the activities of its components. (Porter, 1987: 43) He describes this in terms of very large companies operating in diverse sectors, but the same would be true of a small company with different departments, or simply even a group of people with different functions. Unless strategy in considered from both directions, bottom-up and top-down, the job is at best half-done. References AstraZeneca plc. (2009) Annual Reports. Available from: http://www.astrazeneca.com/investors/ annual-reports?itemId=4169889. BusinessDictionary.com. (2010) “Strategy.” [Internet] Web Finance, Inc., 2010. Available from: http://www.businessdictionary.com/definition/strategy.html. GlaxoSmithKline plc. (2009) Annual Reports. Available from: http://www.gsk.com/investors/ annual-reports.htm. Henderson, B.D. (1991) “The Origin of Strategy”. In: C.A. Montgomery and M.E. Porter (Eds.). Strategy: Seeking and Securing Competitive Advantage. Boston: Harvard Business Press. Lovallo, D.P., and Mendonca, L.T. (2007) “Strategy’s strategist: An interview with Richard Rumelt”. McKinsey Quarterly, [Internet] November 2007. Available from: https://www.mckinseyquarterly.com/Strategy/Strategic_Thinking/Strategys_strategist_An_interview_with_Richard_Rumelt_2039. Porter, M.E. (1987) “From Competitive Advantage to Corporate Strategy”. Harvard Business Review, May-June 1987: 43-59. Rumelt, R.P. (2003) “What in the World is Competitive Advantage?” The Anderson School at UCLA Policy Working Paper 2003-105, 5 August 2003. BNET [Internet], August 2003. Available from: http://www.anderson.ucla.edu/faculty/dick.rumelt/Docs/Papers/WhatisCA_03.pdf. Shin, N. (2001) “Strategies for Competitive Advantage in Electronic Commerce”. Journal of Electronic Commerce Research, 2(4): 164-171. Available from BNET: http://jobfunctions.bnet.com/abstract.aspx?docid=82912. Read More