Strategic Management - Models, Advice, Practical Considerations and Simplicity
Ulrik Rasmussen
Growth | Sales | Execution | Strategy | SaaS | Retail | Manufacturing | M&A | Finance
This article is part of the book "Pragmatic Management For Results" - you can read a few other chapters for free here:
--- ooo ---
Looking into the future and planning a course is highly uncertain, and therefore it will often amount to nothing but wishes and beliefs.
That is, if it is not based on concrete facts. So it is essential through models of the present and the past about the business operation and workings, through logic and assumptions about future events, to try to come to a rational understanding about the future.
In this article pragmatic tools and frameworks for Strategic Management are presented, and an integrated model is proposed.
You can peruse each section, or you can read it all.
---ooo---
CONTENTS
?---ooo---
Introduction
Management is a conversation. Or more properly a series of conversations. Using fact-based-management is trying to direct that conversation on to a rational course based on facts. This conversation will then result in decisions based on rationality in face of uncertainty, and those decisions will then be converted into performance.
Management is a conversation because management is leading through others, so one must discuss, direct, persuade and argue in order to set the direction, to set activities in motion, and perhaps through the conversation also redirect your own point of view - and set a direction that has commitment.
"In action, be primitive; in foresight, a strategist"
René Char, "Hypnos", 1946, Translated by Mark Hutchinson, ITEM 72
Strategic Management is therefore also a conversation. This conversation is however somewhat blurry or fuzzy, as the contents of strategic management is not pertaining to the present or the shorter term, but in essence is centered on the future and the long term future.
As Management is in essence a conversation, so too is Strategic Management
Looking into the future and planning a course is highly uncertain, and therefore it will often amount to nothing but wishes and beliefs.
That is, if it is not based on concrete facts. So it is essential through models of the present and the past about the business operation and workings, through logic and assumptions about future events, to try to come to a rational understanding about the future.
This is not an easy conversation to participate in, and even harder to lead.
So therefore tools, models and visualizations to facilitate this conversation are essential and maybe even as important as facts in designing a good, constructive and productive conversation about the strategy of the business.
Strategic Management is an attempt to predict the future, and is therefore concerned with the quantification and modeling of uncertainty
Strategic Management can not be general advice on how to practice. The human condition as it is, is far too volatile as is the environment in which it is to be applied.
What can be done is to educate in the tools, models and thinking which has worked in other situations, and which will then make the foundations for each individual to use his ingenuity to strategize in the best way possible in the current circumstances.
In this brief run-through of Strategic Management a series of tools and models will be described from a pragmatic point of view, in order to provide easy application and use in this conversation about strategy.
Tools are important in Strategic Management in order to guide the fuzziness and uncertainty
The origin of Strategic Management
Strategy has been adopted from the military, where it has been developed long before it was applied to business settings.
Strategy originates from military operations
Carl von Clausewitz wrote a very large work on military strategy, and war in general, over a number of years. It was published in 1831 posthumously by his wife.
In this work Clausewitz set forth that there needs to be laid out Purpose, Goals and a core Objective in order to strategize with any effectiveness. You need to know why you do what you set out to do, you need a specific end-state and you need milestones on your way to success.
“War is a mere continuation of politics by other means.”
General Carl von Clausewitz, “On War”, translation by colonel J.J. Graham 1874, Chapter I
In addition Clausewitz states that you have to operate under imperfect information and in volatile circumstances. That does not mean that you do not need a plan, but it means that you have to replan frequently, when something unforeseen occurs.
“By the word “information” we denote all the knowledge which we have of the enemy and his country; therefore, in fact, the foundation of all our ideas and actions. Let us just consider the nature of this foundation, its want of trustworthiness, its changefulness, and we shall soon feel what a dangerous edifice War is, how easily it may fall to pieces and bury us in its ruins.”
General Carl von Clausewitz, “On War”, translation by colonel J.J. Graham 1874, Chapter VI
Igor Ansoff and later Michael Porter were among the first to designate the area of strategic management as a ‘separate’ discipline for business in the 1960's. Some will say Peter Drucker and Henry Mintzberg also contributed or maybe even was first on the field.
It was the idea of not only planning for the company's activities but to gain competitive advantage and to secure growth both in known and unknown areas.
Drucker has a very broad entry into the area, however his thoughts fundamentally express the core elements in Strategic Management, albeit not much actual pragmatic advice on what to do.
“War therefore is an act of violence intended to compel our opponent to fulfil our will.”
General Carl von Clausewitz, “On War”, translation by colonel J.J. Graham 1874, Chapter I
Igor Ansoff and Michael Porter were more concrete in their work, and they have contributed not only with frameworks, but with specific models and methods for Strategic thinking as well as Strategic Management.
Profit and by derivation Growth are at the center of Strategy
Drucker formulated strategic management as establishing a “a theory of business”, which should answer what the mission of the business is, what the core competencies in the company are, who are the customers and non-customers and what are the results of the enterprise. So strategic management is in effect to describe the current situation in these areas, and to devise a way forward changing some or all elements, so the outcome is improved.?
“Information has to be organized to challenge a company’s strategy. It has to test the company’s assumptions, its theory of the business. This includes testing the company’s assumptions about the environment: society and its
structure, the market, the customer, and technology.”
Peter Drucker, “Management: Tasks, Responsibilities, Practices”, 1973, ‘Introduction’ page xix.
The theory of the business should be formulated in a series of objectives, hence the Drucker expression ‘Management by Objective”. These objectives should be operational and measurable. That is in general the level of concreteness that Drucker comes to, and that is helpful for setting the framework, but not in how to actually do anything - however Druckers mission is also not to handle Business Management, but management in general, that is management of a group of people in any setting.
“The early nineteenth-century business—and even the mid-nineteenth-century business—derived success from low costs. Successfully managing a business meant being able to produce the same commodities everybody else produced but at lower cost. In the twentieth century this then changed to what we now call “strategy” or analysis for the purpose of creating competitive advantage. I may claim to have been the first one to point this out, in a 1964 book called Managing for Results.”
Peter Drucker, “Management: Tasks, Responsibilities, Practices”, 1973, ‘Preface’, page xxv.
However, if Drucker saw his own book from 1964 as a starting point for strategy, which actually has little direct content on strategy and is in fact a book about management in general, then Ansoff came later in 1965 with his monumental book “Corporate Strategy”.
Here he phrases business strategy in the terms that we use today, introducing (or reiterating) portfolio analysis, synergies, objectives, competitive analysis and competitive advantage among other things.
Ansoff is also not so quick to take credit for inventing “strategy” in a business context:
"It is of particular interest to me to see that, despite the very sharp changes of approach to business from the early 1960s to today, the wheel seems to have turned full circle and business has again rediscovered the concept of strategy."
Igor Ansoff, “Corporate Strategy”, McGraw-Hill, 1965, ‘Introduction’, page 8
However, Ansoff is the first to really treat the concept of strategy in business in a management context and as a separate area, introducing many of the concepts and tools in use to this day.
After Ansoff and Drucker dominated for some time, Michael Porter came out with his 5 forces - new entrants, substitutes, customers, suppliers and competitors - in 1979.
“The key to growth—even survival—is to stake out a position that is less vulnerable to attack from head-to-head opponents, whether established or new, and less vulnerable to erosion from the direction of buyers, suppliers, and substitute goods.”
Michael Porter, “How Competitive Forces Shape Strategy”, Harvard Business Review, March–April 1979
Henry Mintzberg drafted his 5 P’s of strategy entailing Plan, Ploy, Pattern, Position and Perspective. This was to criticize the use of the term strategy, and to elaborate on different types of strategy and the objectives of these:
“Thus, strategy is not just a notion of how to deal with an enemy or a set of competitors or a market, as it is treated in so much of the literature and in its popular usage. It also draws us into some of the most fundamental issues about organizations as instruments for collective perception and action.”
Henry Mintzberg, California Management Review, “The Strategy Concept I: Five Ps for Strategy”, October 1, 1987
?
After that there are very many contributions in the area of Strategic Management, however in the following a concrete approach will be taken, which will focus on specific models and methods for devising a Business Strategy.
First a discussion of a pragmatic definition of strategic management and its purpose.
The 5 P’s of Strategy are not to be confused with the 5 P’s of Marketing
“Managers always have to administer, to manage and improve, what already exists and is already known. But there is another dimension to managerial performance. Managers also have to be entrepreneurs. They have to redirect resources from areas of low or diminishing results to areas of high or increasing results. They have to slough off yesterday and to make obsolete what already exists and is already known. They have to create tomorrow.”
Peter Drucker, “Management: Tasks, Responsibilities, Practices”, 1973, ‘Chanpter 3’, page 31.
?
The Framework for Strategic Management
The Objective
A strategy should in essence answer what to do in order to achieve the main objective in a business.
The main objective is to create value to the owners on the capital invested. There are some who have invented various other objectives, but from a generic point of view value creation is the one objective.
The ‘stakeholder model’ which identifies the different stakeholders and their individual objectives will for practical purposes not alter this fact.
Value creation is the true generic objective of any company
For most of the normal self-centered human race, which to our knowledge only have one life, and thereby with high probability a non-infinite timeframe - the objective is to win, or to gain the highest possible outcome of the, for us, accessible resources.
If a majority of the owners of the company has a different objective, then that will be the valid objective - however for pragmatic purposes and for the discussion at hand altruistic objectives are assumed to be negligible and the classic approach is adopted.
“It is necessary in strategic planning to start separately with all three questions: What is the business? What will it be? What should it be? These are, and should be, separate conceptual approaches.”
Peter Drucker, “Management: Tasks, Responsibilities, Practices”, 1973, ‘Chapter 11’, page 123.
The board of directors, the executive board, the management team and the employees may all have their own goals and objectives, which may be political, social, self-developing etc., and these needs should be factored into the equation as well.
However, this is subordinate to the objective of the capital in the normal management hierarchical organization. Here the decisional power is organized in the general assembly (with a voice according to ownership), the board of directors and the executive board, and in that order. This is the classical and still normal way to organize a company's operation, and which is also to some degree stated by law in most countries.
The various goals of stakeholders should be considered, but they are subordinate to the main objective of value creation.
The principal objective of management should be to secure the maximum prosperity for the employer, coupled with the maximum prosperity for each employee.
“The words "maximum prosperity" are used, in their broad sense, to mean not only large dividends for the company or owner, but the development of every branch of the business to its highest state of excellence, so that the prosperity may be permanent. In the same way maximum prosperity for each employee means not only higher wages than are usually received by men of his class, but, of more importance still, it also means the development of each man to his state of maximum efficiency, so that he may be able to do, generally speaking, the highest grade of work for which his natural abilities fit him, and it further means giving him, when possible, this class of work to do.”
Frederick Winslow Taylor, “The Principles of Scientific Management”, 1911, Chapter 1
As can be seen from the Quote from Taylor this objective has been stated from the very beginning of the management literature over a hundred years ago.
This leads to the following objective:
?
"The objective of the business is to generate the maximum profit in a given timeframe"
So viewed simplistically the objective is to generate the maximum profit in a given timeframe, i.e. profit in a broad sense, which could also simply be to maximize the enterprise value, i.e.??creating maximum value. In the long term this corresponds to maximizing profit. I.e. increasing the number of users or customers at the same time as generating negative profit, as is seen in many SaaS start-ups, that will eventually have the goal of generating profit.
Normally this time frame will be in the long term, i.e. year to year profits are normally not a time frame for investments. Unless there are extreme short-term profits, the time frame will be from 5 years and onwards.
So strategy is what to do to maximize profits in the long run.
3 elements of business
To achieve the objective will require the analysis of opportunities and possibilities for the business. There are here 3 different elements to the company, i.e. input, operation and output. So this revolves around the sourcing of materials or the input into the company, the operations including the resources internally and the market or the output.
This analysis of opportunities and possibilities will then take its outset in an analysis of what you have in the company today - a description of the 3 elements as they work currently. Then on that basis an analysis can take place regarding what the possibilities are in the future, and that will be the groundwork for the decisions weighing the opportunity for growing the business and profits versus the risks inherent in the choices.
A Pragmatic Framework For Strategic Management
The strategy will be detailed in a lot of areas comprising the whole firm.
Input & Operation
In the input area there are the possibilities to use the technology, competencies and resources as they are, or to invest in and use a different set of input elements or to develop the assets that are in place to new capabilities.
This could be in the way of forming strategic partnerships for sourcing or by other means integrate the value chain more, so that competitive advantages can be pooled, and the profits in the end market shared, which is one of the methods used frequently.
Another often used approach is investing in new technology before the competition, and thereby reducing costs or adding features.
However all inputs and operation methodologies should be looked at carefully and information gathered continuously.
Output
On the output side there might be unfulfilled needs in some segments of customers, and there also might be possibilities for new products.
New products may not even be necessary if the business is in a blue ocean market, where simply marketing that there is a solution at all could be enough. However, a keen analysis of your customers' businesses, needs, technology and how that plays into your product or value offering, that is a must.
Also analysis of the competitors is an indispensable basis for laying down the strategy. Who the competitors are, what they provide of value, what they portray in a marketing perspective, how they sell and what customers they have, and in addition the more hard to get facts about what technology they use, what their capital strength is etc.
The elements of the pragmatic framework - Input, Operation & Output
So what you can do in each of these 3 areas to increase profit, i.e. win the market or reduce cost, that will comprise the strategy and form the plan for gaining competitive advantage.
A simplistic approach
This is a simplistic and unnuanced picture of strategic management. There are a lot of other things to consider, and the viewpoint here is from a small company with up to a couple of thousand employees. In addition the execution of the strategy is a highly complex undertaking, which will not be handled in the following.
Big corporations will need to look at whole divisions, subsidiaries and broad markets and the interaction between different elements of the total corporate structure. This will complicate the process and a whole different set of tools will be needed than the ones presented here in the following - even though some of the considerations are the same.
“We can now attempt to define what strategic planning is. It is the continuous process of making present risk-taking decisions systematically with the greatest knowledge of their futurity; organizing systematically the efforts needed to carry out these decisions; and measuring the results of these decisions against the expectations through organized, systematic feedback.“
Peter Drucker, “Management: Tasks, Responsibilities, Practices”, 1973, ‘Chapter 11’, page 125.
The tools presented here are for the small up to medium enterprise companies
Practical advice
Don't over complicate
Not many people in business have the capacity for handling complicated models with hundreds of variables.
In general Occam's razor applies. A parsimonious model is most often right and it is much easier to apply and understand by all levels in the organization.
As has been known for 700 years or more through Occam’s razor - the simple solution if often the best
In general one could say the first rule of strategy should be equivalent to the rewritten Hippocratic oath "First, do no harm", which is short for a long oath about doing no harm and applying oneself committedly to the task.
In business this translate to "First, do not be stupid" - do the work, investigate, find the facts, use your logic and stay true to your objective.
In other words, do not be stupid.
"It is remarkable how much long-term advantage people like us have gotten by trying to be consistently not stupid, instead of trying to be very intelligent."
Charlie Munger in Janet Lowe, "Damn Right!", Page 159, Wiley, 2003
Charlie Munger's quote above is sound advice. Many strategies are so sophisticated, that they ruin more than they benefit.
If you have a good running business, then your strategy should take seriously into consideration the risk of destroying that running business.
"First, do not be stupid" - do the work, investigate, find the facts, use your logic and stay true to your objective
Do not destroy what you already have. Sometimes competition can be a game of not losing rather than a game of winning. So make fewer mistakes than the competitors and you will win in the long run.
And first and foremost; do the work. If you do not have facts, but go with guessing and conjecture about market, competitors, products, technology etc., what you are really doing is gambling - you are performing haphazard management.
"In action, be primitive; in foresight, a strategist"
René Char, "Hypnos", 1946, Translated by Mark Hutchinson, ITEM 72
All models are wrong
Essentially, all models are wrong, but some models are useful.
This is a paraphrase of the actual quote from the statistician George Box:
"Since all models are wrong the scientist must be alert to
what is importantly wrong.
...
we make tentative assumptions about the real world which we know are false but which we believe may be useful nonetheless."
George E. P. Box, 'Science and Statistics",?Journal of the American Statistical Association, Vol. 71, No. 356 (Dec., 1976), pp. 791-799
?This is a thought-provoking statement, especially for science, but also for building a strategy. So in effect this means that your strategy will be wrong.
A strategy is built upon a model of the world which the business is part of. This model will always be wrong - it is just a question of how wrong. If it is sufficiently wrong the strategy will fail, but if it is only insignificantly wrong, then it will work. If the strategy built upon the model is also sound, that is.
So your model will be wrong, it should just be so small in error, that it is useful. And then your strategy based on that model needs to be a good one, and for strategies there can be many different ones that will all work to further the objective to a greater or lesser degree.
All models are wrong is a quote from statistician George Box
Strategy summarized by Henderson
As an overview of thoughts on strategy, Bruce Henderson wrote a great article in Harvard Business Review. This was after the original ground-breaking work was done, and also after the many debates about who was right. Henderson takes a pragmatic approach to the subject of strategy, albeit on a conceptual level.
Henderson in his own way summarizes the state of the art about business strategy in his rather short article, and without much evidence. However, the article states very well the essence:
“The basic elements of strategic competition are these: (1) ability to understand competitive behavior as a system in which competitors, customers, money, people, and resources continually interact; (2) ability to use this understanding to predict how a given strategic move will rebalance the competitive equilibrium; (3) resources that can be permanently committed to new uses even though the benefits will be deferred; (4) ability to predict risk and return with enough accuracy and confidence to justify that commitment; and (5) willingness to act.“
Bruce D. Henderson, "The Origin of Strategy", Harvard Business Review (November–December 1989)
In the following paragraphs a few comments to each of Henderson's elements will be given.
An illustration of Henderson's model for Strategy
Understand the market
Understanding the market you are in is crucial.
This means understanding your customers and their needs. And the only way to achieve this to the full extent is to talk to them.
Either through trying to sell to them, i.e. treating sales meetings systematically as information channels, and getting the sales reps. to gather the intel. Or if you have a larger organization through a business development department, which has the strict task of gathering information from customers and potential customers about the needs and wants of the customers, and also the needs that are not being filled yet, i.e. the possibility for new products and niches.
Naturally you can use whatever general understanding you may have, you can perform desktop research and you may also in the company possess knowledge of technology and development, which can be useful.
To some degree it will also be possible to buy market analyses, which are gathered by professional suppliers in their field, or to complement that information to the other sources.
However to fully understand your customers and also understand your customers business, you will need to talk to your customers.
Understanding the market also entails understanding the competitors.
Here a competitor analysis will be the first step, gathering the most direct competitors, and the indirect ones. Looking at their products and trying them out. Reengineering their marketing approach and their USPs and value proposition. Also this should be extended with a plethora of descriptive information, such as the capital strength, number of employees, locations, important employees, ownership etc.
There needs to be a clear definition of the market, i.e. who are the customers and how much are they willing to spend, or how much are they already spending. In addition one should find the substitute products and assess if they can be competed against more efficiently. Then quantifying all this information in a total addressable market, i.e. if you had 100% market share what would you topline be.
There are also finer points to this, such as a service addressable market etc., but first you need to figure out the total market.
Having figured out the quantity of the market, the customers, substitute products and competitors you should also look into the supply chain and figure out who the suppliers are, and what competitive forces are at play there, i.e. strategic partnerships, vertical integrations etc.
And from this you should have a look at the full value chain in the market, i.e. also including the operations and technology.
Capital will have a role to play in the market forces as well, and this should be assessed, even if it is a fuzzy highly uncertain area.
Some of the elements in understanding the market
?
?
Understand a strategy’s impact on the market
When you pick a strategy, even a simple one such as competing on price, you should anticipate what the competitors will do. It should also be evident that some strategies might change how the customers will react, or even how society at large will react, with new legislation, with moral offense, with gratitude etc.
Often a good strategy will introduce something new, or something that only a few players in the market are doing, so then this might bring about adverse effects.
For example, substitute products could become a real problem for you, if you wipe out all direct competitors in the market - also your market might suddenly become interesting for large competitors in adjacent markets. Or if you find a good way to market your truly unique value, then that might lend itself to the competition just copying your marketing, if there is no ex ante difference from the customer point of view.
Even with the best of intentions of delivering a superior product to your customers, you might fail longer term, if you do not anticipate and factor in the response from the market.
As society, so is business; feelings and human nature will play a large part, and it is not a meritocracy - you will not necessarily win just because you are the best.
So anticipating responses to your strategy from all elements in the market will be crucial, and this is no easy analysis to make. It will be hard work both from a fact gathering angle and from a thinking point of view.
Anticipation of how the market will react to your strategy is paramount
Understand capability and utilization of resources in the company
This is essential management. It is about understanding your business, what are the business processes, what value do you provide, how do you optimize, how can you cut costs, how will you innovate and how should you manage people and attract resources.
Pricing, planning, financial control, reporting, kpi’s and action plans, these are some of the elements in areas that need to be understood in order to assess the feasibility of the strategy.
This is a huge area in the same way as the understanding of the market is. However this is a very important topic for strategy - without knowing exactly what you can do, and what you already have in place, you will never be able to set a good strategy for the business. And this is not leadership - it is the foundation of leadership namely areas of management.
Without proper understanding of the intricate elements of how to run your company, you will not be able to set a good strategy.
Without understanding how to run your business, and specifically how to execute, there is no leadership or any effective strategic planning.
Ability to predict outcomes and risk in a business case for decisions
Here you need modeling beyond just thinking. So in essence this is financial modeling of all the initiatives, so that the commercial outcome can be understood and the risks or probability that goes with it is also mapped out.
Gathering the facts to actually support the assessment of risk and outcomes is no trivial task, and it is both demanding in work, demanding in quantifying the fuzziness and also in the creativity of assessments.
Henderson's area of predicting outcomes and risk is ‘the theory of the firm’, and modeling reality. This synthesizes all facts and logic about market, operation, resources, capital etc., and quantifies it in financial terms. It is the firm's rational model of the world.
Modeling the reality which faces the company is a huge task, and it depends on Fact-Based Management, as it entails ordering facts and causality in a model, which quantifies results in financial terms.
?
?
Willingness and ability to act and execute the strategy
Again, as with Henderson’s other elements, this entails a very huge area. The ability to act and execute is tied directly into the management of all areas of the company from sourcing to selling.
Even if you have a thorough understanding of the market, the capabilities and competencies in the organization, and you have set a course on the basis of careful risk analysis - you still need to execute the transformation of the company from the existing state to the new one.
So this consists in answering not only what to do, but how to do it.
This entails management throughout the whole company, breaking down goals to individual areas which complements the whole, and to find ways to achieve these goals.
This will sometimes be trivial, but other times it will take a thorough understanding of your business, i.e. what are the business processes, what value do you provide, how to optimize, how to cut costs, how to innovate, how to control financials, how to manage people and attract resources. All this to be planned and set out in activity and action plans for execution in the organization.
Willingness to act is also to use the capital in the company to pursue the strategy, and that is a willingness that is often lacking; especially when investments are needed beyond the capability of the running operation, i.e. beyond the operating cash flows. In the end it is about taking risks, and not only jeopardizing financial outcome, but also the risk of losing the invested capital.
All of Henderson's advice is sound, and it can inspire the work with one or more models, and the work with numerous tools, to aid the different aspects of his reasoning-model.
The willingness to invest the hard work on execution and the willingness to invest capital, these are both crucial for any strategy to work.
??
Data, facts and information
Moving on from Henderson a few words can be spared on one of the main prerequisites in Henderson's framework.
Having a good foundation of facts about the situation of the company is crucial to design a good strategy.
The more information you have the better decisions you make. However at some point the cost of obtaining further information about a situation will simply be too costly compared to the value.
Any decision can be mapped according to a normal distribution for heuristic reasons (it might in fact be another distribution). So that the expected outcome will look something like the drawn graph:
There is an optimal amount of information and facts that will assist for the optimum of decision making.
The more information you gather the more secure the estimate of the business case, and the slimmer the expected range.
Gathering more and more information the cost will increase, and it is probably not unreasonable that the cost will increase exponentially as one approaches perfect information - as the proverbial butterfly bashing its wings somewhere on the opposite hemisphere might have an infinitesimal impact, so that perfect information pertaining to the situation is theoretically all information in the world. I.e. the cost of information will marginally increase more and more, as it will require more and more work to obtain additional information.
Conversely the value of information must be rapidly rising at first, as even small pieces of information will increase the accuracy of prediction by a huge amount. Also, once a certain level of information has been reached, the additional value must decrease, and eventually no further information will be valuable. I.e. a decreasing marginal value of information, which will approach to some horizontal fixed maximum value asymptotically
At some point the value of information will lower than the cost of information, and it will not make sense to gather any further facts
So simply just gathering information and facts without end, that is not the right approach. However not gathering any information is also not a viable course of action.
For practical purposes some effort should be concentrated on fact gathering in all areas of the business, and then evaluate the additional value as one goes along. As a pragmatic approach it will in general be worthwhile to use time and effort to record in writing and in a systematic and structured fashion, all the information that the organization comes in to contact with in their daily work. The real trade-off will occur once you decide to buy information externally.
Information and facts can be fluffy, blurry and unstructured, and they can still provide value. However just straightening out the facts, i.e. separating the degree of certainty, describing the information systematically and structuring the information, and laying bare the areas with no information - that will improve the quality immensely.
In many businesses facts are confined to conjecture and gut-feelings. That is, there is nothing written down, and there is a more or less coherent mental picture of competition, substitute products, needs and wants of customers etc.
However, to form a good basis for strategic work, one needs to write all these facts down, and preferably in a structured way. This is in order to be able to test it against reality, to ascertain the certainty of information, to find blindspots with no information, and in order to be able to do analyses on the information.
The majority of firms in the SME-segment do not gather facts in a structured way, and in many areas nothing whatsoever is written - it is 'experience' in the mind of employees. Even in larger companies with thousands of employees this is often the state of affairs.
Just writing down what the organization "knows" will bring you a good step forward.
The HiPPO Effect
HiPPO is an acronym for the Highest Paid Person's Opinion. So that, in effect, often just means the highest ranking person in the room.
Beware of the HiPPO effect
When drafting a strategy it is important to handle all the non-facts, i.e. fuzzy information, assumptions about circumstances, assumptions about logic, intuition, projections about the future etc. This is inherently difficult, and as there is a high degree of uncertainty, it is important not to go with just one person's opinion, but to have an in depth discussion about the assumptions made.
The HiPPO rule was invented by Ronny Kohavi and Avinash Kaushik in a discussion in 2006, and has been popularized by many since.
The HiPPO effect has been described as one of the biggest barriers to more evidence-based and data-driven decision-making. With the quantity and quality of data available today, it is not rational for organizations to ignore data in favor of making decisions solely based on what the HiPPO wants and based on his worldview.
When a HiPPO is in the room and a difficult decision needs to be made but there’s no data or no data analysis to determine the right course of action one way or another, the group will often defer to the judgment of the HiPPO. There might also be good data and facts present, and the decision will still be up to the judgment of the HiPPO.
HiPPOs usually have the most experience and power in the room. Once their opinion is out, voices of dissent are usually shut out and in some cases, based on the culture, others fear speaking out against the HiPPO’s direction even if they disagree with it.
The HiPPO-effect has been indirectly researched by Balazs Szatmari in his Phd-Project from 2016.?
In this study it is found that projects led by senior leaders failed more often while projects led by junior managers were more likely to be successful. The junior managers had the benefit of critique of their project plans from others that helped them build a stronger plan, while employees were more reluctant to give critical feedback to high-status leaders.
When a leader has lost touch with the customers or fails to remember that the team has valuable insight, the HiPPO effect is in full force.
Szatmari, B., “We are (all) the champions: The effect of status in the implementation of innovations”, 2016, ERIM Ph.D. Series Research in Management, Erasmus University Rotterdam, Page 58
Szatmari finds an inverted U-shaped relationship between success/quality and status, i.e. up to a point status has a positive impact, but then it reverses to a negative impact.
The HiPPO-effect is especially deadly, when the HiPPO is driven by Feel-Good Leadership, and therefore is in full denial of reality, and bases his decisions on some ideal or feeling, which then leads to pulling the organization in this feel-good direction.?
This typically consists in Including everyone in democratic decision-making, but not recognizing that there are no facts to base the direction on, and thus what needs to be done is to create a foundation of facts about the undertaking at hand, and not discuss based solely on conjecture.?
In strategy this is even more problematic, and as strategy is an expertise area delegated to the Board of Directors, often the HiPPO effect is in full force.?
Everybody should be able to see the obvious, that just because one person has power, that does not mean that he has a special access to the truth - so he should not be believed any more than the next guy.
Hierarchy is necessary for smooth operation, however the danger of the HiPPO-effect is inherent
Addressing the question of what basis you have for the view of the world facing the company, that is good practice for setting a strategy. If your view of reality is not accurate, then your strategy will be biased from the beginning.
In Boards there is a tendency to favor positive information, and a view of reality through a set of unrealistic positivity. That lens of the world will make implementation and execution of the strategy very hard and in many cases impossible.?
When attempting to form a viable strategy, which can be implemented, the HiPPO effect is poisonous - both in the Board of directors and in the executive board.
Critical success factor analysis
Critical Success Factors is one of many methods for building a strategy. It is a tool. However, it is not a comprehensive tool, and it needs to be used together with other methods.
Critical Success Factors (CSF) are, as is straightforward from the name, factors which are critical for success.?
This method can be used for a project or for the whole mission of the company.
There are four types of Critical Success Factors.
In these categories the most influential factors should be identified and followed up closely to secure success. That is the crux of the approach.
The method was developed in the article:
D. Ronald Daniel, “Management Information Crisis”, Harvard Business Review, September–October 1961
Here the outset is the information needs of the executives in running the business, which however are directly linked to the strategy, if the business is run successfully.
This was further elaborated by John F. Rockart in 1979.
He starts out by pointing out, that information is too abundant and not ordered in what is critical for the business and what is not:
“I think the problem with management information systems in the past in many companies has been that they’re overwhelming as far as the executive is concerned. He has to go through reams of reports and try to determine for himself what are the most critical pieces of information contained in the reports so that he can take the necessary action and correct any problems that have arisen.”
William Dougherty quoted in: John F. Rockart, "Chief Executives Define Their Own Data Needs", Harvard Business Review, March 1979
He then outlines and discusses some other methods, and finally arrives at the CSF-method.
He quotes Daniel to show that this is not only a question of information but of strategy:
“…a company’s information system must be discriminating and selective. It should focus on ‘success factors.’ In most industries there are usually three to six factors that determine success; these key jobs must be done exceedingly well for a company to be successful.”
Ronald Daniel quote in: John F. Rockart, "Chief Executives Define Their Own Data Needs", Harvard Business Review, March 1979
Rockart then describes the 4 different categories of CSF’s, and he emphasizes that different businesses will have different Critical Success Factors.
The rest of the article gives examples and poses different levels of CSF-analysis in relation to different managerial levels.
Critical Success Factors can be used in various areas of a business and at various managerial levels.
Essentially the method is simply to identify the critical success factors, and then map them out and explain their interrelatedness, the variables that influence them, and then measure and follow up on them.
The method can be extended by various more elaborate methods to dissect and decompose the factors, so that activities and actions to support them can be established in an executable manner. By example various scales of strong/weak or factors already in place versus those that needs development can be used as a framework for analyzing the factors.
Categorizing Critical Success Factors according to strength and importance is one example of how to elaborate of the CSF-framework
The CSF-method will be most valuable when combined with other strategic tools. Without other input the analysis leading to the CSF’s will be cumbersome and tough, as all the fact-finding, the model of the company and all the assumptions are needed for the analysis to be of real value.
Strategic Choice Approach
The Strategic Choice Approach is designed for use in decision making about strategy in a discussion between managers. However, the method is not confined to this setting, although it is a tool for structuring discussions about what to do.?
It is rather than a framework more of a discovery, problem identification and decision making approach.
There are 4 phases in the method:
Handling uncertainties is a focus area of the approach, which permeates all steps - however, that does not necessarily have to be at the center.
领英推荐
Friend, JK. & Hickling, A., "Planning Under pressure: the Strategic Choice Approach", 1987, Pergamon (Urban and Regional Planning Series, Volume 37), Oxford.
The approach is incremental. The process should be iterated over time, and decisions adapted to the new environment and situation, which has emerged from the actions taken.
This approach was based on previous work, but published in a full method in a book by John Kimball Friend and Allen Hickling.?
In this book the method and the tools to use in each phase are discussed at length. However, the process and the 4 steps are the real insights.
Price
Competition on price is the most evident of strategies, used from the beginning of business and in many different shapes. However there is an underlying competition on cost. The assumption is that you are selling a commodity, where the quality and features are the same for all players in the market. So if you drive down costs, then you can set the price lower, and thereby win the market, without jeopardizing profits.
In the 1990’s the concept of Business Process Reengineering emerged. This is a way to analyze the cost structure, and to eliminate costs. To optimize the way the organization works, so as to minimize costs, and thereby be able to compete on price.
Positioning map for Quality and Price
Being competitive on cost will facilitate the ability to be competitive on price. However the price competition has its clear disadvantages from the risk of cutting into the margin and thereby profits, and in addition it will be hard work to stay competitive on price. The cost competitiveness is further discussed in ‘the experience curve’.
Even so it is one of the most used strategies. Whether you go for low price and low quality or high price and high quality. The best quadrant to be in is naturally high quality with a low price, however for most practical applications that is not a realistic place to be positioned.
Minimizing costs will enable to set the price low, and thereby gain volume.
There are many ways to try to circumvent this situation, where the price lowering cuts into profits. The most used ways are either to mask the real price or lower the entry point, so that the price is in fact not lower, but it seems lower.
Another way is to offer different pricing models. This could be a Monthly Recurring Revenue model as in SaaS, so that the price is a perpetual monthly or yearly fee, which reduces the entry barrier compared to buying a license in one up-front payment and paying for implementation on top of this.?
There are many variations of the recurring revenue model. You can lower the upfront payment if something needs to be tailored to the specific customer, either to partial profits, to cost or below cost, and then increase the recurring fee afterwards.
A recurring fee will often be more acceptable whether you buy software or machinery, as you will get the costs at the same time as you as a customer gets the revenue, i.e. you share some of the revenue with the supplier, but you do not take the risk of a big upfront payment, and the supplier shares in the overall risk.?
A direct revenue sharing model is also often used, i.e. you get a percentage of the sales of the customer, so that the customer will not have to invest or invest minimally, and the success of both supplier and customer are tied directly together.
The number of ways to compete on price are legion, but having a valuable offering for the customer is a must, also when competing on price. Having a unique value offering will make price less important, and thereby make it either easier to take market share, having higher profits or both.
The budget
In many organizations the “strategic” planning is done in the budget on the basis of a set of already established overall objectives, and then budgeting for some activities which will help achieve these objectives.?
This can as such be a good enough approach. However the real detailed contemplation and analysis of both the supply chain side and the market side of the business will seldom be done well enough in the budget. Often information and facts about the market, the competitors, the customers, the potential needs, the products etc. will simply not be available, as the organization is not continuously monitoring and analyzing these elements , and as a budgeting process is resource demanding, broad assumptions will be made, and the creativity will be limited.
The budget is an often used method for strategy, however it has many inherent problems.
Doing a strategic process instead, and using this as input to the budget is a much better way. In a strategy document some kind of quantification of the expected results of the strategy should be given, and the budget is a good way of expressing such quantitative results.?
Also in the process of strategizing it will be a good idea to make simulations about different options in the strategy, and budget analysis is an effective and systematic method for this work.
So the budget is a good tool for strategy, and strategy a good input to the budget, however lumping the two together in one, is not recommendable - even if this is the method of preference in numerous companies.
The Experience Curve
The experience curve refers to the relationship that total per unit costs decline systematically by about 15–25% every time cumulative production, i.e. ‘experience’, doubles.?
Normally the marginal costs will decrease with volume, so in effect there are ‘economies of scale’.
However, more than that, automation of production will be applied as experience increases. So not only volume, but also experience will influence the cost structure - where experience will be the result of both volume and also time.
In addition technology, which is also to some degree the product of experience, will make costs decrease.
As Bruce Henderson puts it:
““Cost of value added declines approximately 20 to 30 percent each time accumulated experience is doubled.”
This is an observable phenomenon. Whatever the reason, it happens. Explanations are rationalizations. The whole history of increased productivity and industrialization is based on specialization of effort and investment in tools.”
Bruce Henderson, “The Experience Curve Reviewed: Why does it work?”, 1974 - Page 15 in “The Boston Consulting Group on Strategy”, edited by Carl Stern and Michael Deimler, The Boston Consulting Group, 2006
So as you gain market share, your volume will increase and your unit costs will decrease.?
Costs will decrease with experience, which increases through volume, time and technology
So you will automatically gain competitive advantage through decreased costs, when you grow in the market. Nonetheless, this is not so automatic - you will need to work on gaining and increasing the experience. But you can not gain this advantage unless you gain volume.
The experience curve was originally applied to company level from the level of industries. I.e. when industry volume increases twofold the unit costs decrease 20-30 percent, and thus also prices will decrease in the same manner. I.e. this was empirically observed in industries.
Given that this is driven by technology, economies of scale, standardization, specialization, product development etc., it makes sense that this will permeate from the macro to the micro environment, or actually the other way around.
What this implies for strategy is that you can invest in market share, and then reap the benefits once you have the volume. This goes for start-ups as well as for established companies and across multiple industries.
However just gaining volume will not automatically get you there, as it is experience that drives the advantages. And perhaps there could also be a way to gain experience without major growth, and thereby instead lower the costs to be able to grow. I.e. analyzing and implementing new technology or inventing it, standardizing, using specialization and product development, i.e. a rationalization of production and business processes in effect - and that will then be increased with economies of scale.
The experience curve at company level
The mechanisms of the experience curve shows either way, that you will gain advantages with gained experience, whatever means you use to arrive at that experience.
Debriefing
From the military it is a rule of thumb to use the last 5% of effort to debrief. I.e. to find out what actually happened, what went the way it was supposed to, what did not go to plan and why these things happened.?
The idea is to find the causes and then to learn from them, and apply this knowledge to future planning and execution.
So you start out by using all the available information to do a plan, that should take up about 55% of the total time used.?
Then you go about executing the plan, i.e. carrying out what you have set out to do in the way you planned to do it. You should devote about 45% of your effort to this phase.
And then you need to find out how well you did, and if you have improvements to either planning or execution. That is the last phase of debriefing, which should take up about 5% of the time.
From a strategy point of view most of the work on strategy lies in the plan, however the interaction with the execution and also learning from whatever really happened vs. what was planned should happen, that will help strategize better.
So developing some kind of feedback loop of evaluation is also a model to pursue in strategy. It is a tool to make sure the model of reality, i.e. the theory of the business, will improve over time while recording causal relationships.?
The debriefing model ties in planning, execution and debriefing in a loop
OODA Loop
OODA loop is short for Observe Orient Decide Act. The model was developed by military strategist John Boyd.?
Boyd applied the concept to combat operations.?
It is in essence the debriefing model in a sophisticated version or a repurposing of the general control systems model.
OODA diagram originally drawn by John Boyd for his briefings (By Patrick Edwin Moran - Wikimedia)
The model is rather self-explanatory. It starts with observation, i.e. data pertaining to the situation, which are described in information, circumstances and interaction. The Orient phase is an absorption of the data or information, and using this to make assessments, analyses and forming ideas about what to do. The Decide phase is exactly what its name implies, you decide upon the analysis done in the Orient phase, what specifically you will do in the current situation. You have formed a hypothesis about reality and what will happen when you act, and you now decide on the course of action. The Act.phase is carrying out the decision. The resulting changes in the world are then fed back to the observation phase - and the whole system is continuously feeding forward and feeding back.
As per Boyd himself the orient phase is the keypoint in the system:
“Orientation is the schwerpunkt. It shapes the way we interact with the environment -- hence orientation shapes the way we observe, the way we decide, the way we act.”
John Boyd, "Organic Design for Command and Control", Slide 16, May 1987
Within the orientation phase is a subsystem of interactions between Cultural traditions, Genetic heritage, Analysis & synthesis, New information and Previous experience.?
At the core of this system are the beliefs, values and images of the world that we have formed, and thus makes the lens through which we view reality.?
The OODA Loop model is a simple framework for working with Strategy
Naturally this is just a conceptual model, which helps you to structure the process of actually gathering information, making the analysis and deciding on a course of action. It is an iterative process of decision making.
It is worth noticing again, that the orient phase, which Boyd emphasizes, will only work with good gathering of relevant facts, fuzzy information and assumptions, which are systematized and structured. Only on this basis will you be able to do a proper analysis.
You will need specific tools to help you actually observe, orient, decide and act.
Business Model Canvas
The Business Model Canvas was developed by Alexander Osterwalder in his dissertation from 2004 ‘The Business Model Ontology’, which he popularized in the Business Model Canvas.
In its popularized form it is a rather straightforward model, which sets out 9 different elements which interact with each other in 4 different areas.?
The 9 elements are: customer segments, value propositions, channels, customer relationships, revenue streams, key resources, key activities, key partnerships and cost structure.?
These 9 elements are mapped in 4 areas: infrastructure, offering, customers and financials.
Two different illustrations of the Business Model Canvas - The first box-model is the one normally used to work in, whereas the second one shows relations between the elements.
In reality Osterwalder's approach was rather complex in his thesis, where he reviews a large literature on both business models and strategy in order to make the “canvas”.
Also the contents of each of the nine elements and their interaction is handled in detail, and it is far from simple. The complexity stems from the inherent complexity that is the core of strategy. Ostenwalders starting point is a dynamic model of the business and the environment.
Alexander Osterwalder, "The business model ontology: A proposition in a design science approach.", Université de Lausanne, 2004
Osterwalder sets out from a generic general model, and then he incorporates Hamel's business model concept.
Considering the business model proposed by Cantrell he arrives at a fused model, which he develops on the basis of strategic considerations.
Osterwalder names this model the Business Model Ontology, and makes a diagram of it, which resembles some of the basics of the Business Model Canvas.
From the “Ontology” Osterwalder popularizes the model to the Business Model Canvas.
If one considers Henderson's general model of strategy building, then the 4 areas are apparent, and the contents of each area to some degree also.
The Business Model Canvas is a model used very frequently when having strategy sessions.?
However the problem with the model is, that if you have not built good operating procedures in the organization which gathers facts, processes, behaviors and capabilities, you will start out blindfolded.?
Starting out blind without the facts that describes the world facing the company will translate into success by chance. The results of such a process, even undertaken by the very best strategic minds, will be successful only by coincidence.?
However, organizing your thoughts around the Business Model Canvas, even if the facts are few and fuzzy, that will lead to a better result than not using a framework for contemplating the strategy at all.
Following the model and really working with each element will ensure a thorough work with the strategy, and having structured and systematic facts, hazy information and assumptions will almost guarantee a good result.
The Business Model Canvas in its frequently used form
Ansoff matrix
The ansoff matrix was invented by Igor Ansoff in a paper presented in Harvard Business Review in 1957.?
Ansoff, H. Igor., "Strategies for diversification", Harvard Business Review, Sep–Oct 1957
The idea is that the existing product line π0 can be extended to other markets, i.e. market development, or it can stay in the existing market μ0 in which case the strategy is market penetration.?
If you stay in the current market segment μ0, but you make new product lines, then you are in product development, whereas if you are moving into both new markets and launching new products, then you are following a strategy of diversification.
Assessed, from an uncertainty point of view, the risk of being in the markets you are currently in, and producing the products you are currently producing, is low. So you have a high degree of certainty, if nothing new occurs in that market and with those products.?
Moving into new markets or into new products will increase the apparent risk in both cases, and naturally introducing both new markets and new products will be of the highest risk.
However Ansoff really saw the 3 other areas than ‘diversification’ as a no-brainer. Every business would use some kind of mix between these 3 areas, whereas diversification is a choice to make:
“The diversification strategy stands apart from the other three. While the latter are usually followed with the same technical, financial, and merchandising resources which are used for the original product line, diversification generally requires new skills, new techniques, and new facilities. As a result, it almost invariably leads to physical and organizational changes in the structure of the business which represent a distinct break with past business experience.”
Ansoff, H. Igor. "Strategies for diversification", Harvard Business Review, Sep–Oct 1957, Vol. 35, Issue 5, pp. 113-124.
A popular way to picture the ansoff matrix in a more modern expression is by example:
An illustration of an Ansoff Matrix, with risk assessment
Now if you concentrate on diversification, Ansoff says there are 3 strategies - vertical, horizontal and lateral. These are all characterized by new products and new markets.?
Vertical diversification is broadening your position in the value chain in the industry, i.e. by example trying to make the components which you previously sourced. That is generally going to be done by investment into new technology and a new market, but it is in the same industry.
Horizontal diversification is providing the same solution and staying in place in the value chain, but now you are moving to a new industry. I.e. technology might be almost the same, and you already do have some know-how. Now you just need to apply it to something new.
Lateral diversification is moving to a new part of the value chain in a new industry, so here you will have no apparent know-how or industry knowledge to build on.
It is obvious that the diversification strategies also come with different levels of risk. Vertical and horizontal diversification holds medium risk, and the real high risk area is the lateral diversification strategy.?
However, the lateral diversification is characterized by high risk, but it is also a somewhat unjustified strategy, unless it is new territory for every business, i.e. a blue ocean. Why should you go into a business area, in which you have no advantage. Unless you have pursued all other diversification possibilities, this seems like a bad idea. Many articles have been written on lateral diversification, the evils of free cash flow and the perils of self-satisfaction. It seems that unless you are in the business of managing companies, there is no real good reason to have a lateral diversification strategy. Albeit, if you are in the business of managing companies, then the label should rather be horizontal diversification than lateral. Some synergy which you may leverage seems to be a sound basis for a rational strategy, and lateral strategy does not have this basis.
Types of diversification strategies as discussed by Ansoff
Ansoff broadens his view and elaborates on diversification in relation to execution:
“To put it another way, we have derived a method for measuring the profit potential of a diversification strategy, but we have not inquired into the internal factors which determine the ability of a diversifying company to make good this potential. A company planning diversification must consider such questions as how the company should organize to conduct the search for and evaluation of diversification opportunities; what method of business expansion it should employ; and how it should mesh its operations with those of a subsidiary.”
Ansoff, H. Igor (Sep–Oct 1957). "Strategies for diversification", Harvard Business Review, Vol. 35 Issue 5, pp. 113-124.
So not only did the ansoff matrix arrive as a trivial byproduct in the analysis of diversification, but also there are important considerations about the management of the company to be had in relation to assessing the feasibility of implementing a strategy successfully.?
That does not take anything away from the Ansoff Matrix as a tool, and it will continue to be a very good reference point for thinking about different strategies.
Scenario Planning
Scenario Planning has originated from military operations as many other tools in management and strategy.
The method has been used in business from the early 1970's in a variety of techniques and methodologies, which are sometimes slightly different and sometimes not at all alike, and even at times contradictory to each other.
The four phases of Scenario Planning
Scenario Planning is based on the generation of various different scenarios through variation in the elements of the full system facing the firm, i.e. competitors, customers, regulations, available resources, prices, stakeholders etc.
These scenarios take their shape from the base scenario in the situation as it is. Then future scenarios are projected by varying the elements. Most commonly the variations are taken somewhat to the extreme for heuristics.
From these different scenarios the best adaptations for the company are chosen on the basis of the objectives and goals of the business.
Scenarios usually include plausible, but unexpected, situations and problems that exist in some form in the current situation facing the company.?
Any particular scenario would normally be unlikely. However, the method can also be used on less extreme scenarios, which introduces the risk of planning according to the status quo.
Common to the many different variations of the Scenario Planning methods are the following elements, which are to be considered:
So these points should lead to the phases of: 1. Identify driving forces, 2. Identify critical uncertainties, 3. Develop plausible scenarios and 4. Analyze implications and paths.
Again as with almost all tools for strategy the prerequisite for a good application of the method is the gathering of facts, and a systematized and structured map of the current situation the firm is facing in relation to input, operation and output.
Herman Kahn is by many seen as the father of scenario planning with his book "On Thermonuclear War" from 1960.
However the full methodology was first really expressed in full in his following book "On escalation: metaphors and scenarios" in 1965.
Kahn developed his scenario analysis to analyze war and nuclear war in particular, as he describes it himself:
“…a methodological device that provides a convenient list of the many options facing the strategist in a two-sided confrontation and that facilitates the examination of the growth and retardation of crises.”
Herman Kahn, “On Escalation: Metaphors and Scenarios”, Frederick A. Praeger, 1965, page 37
During the next 10 years the methodology applied by Kahn was used in business for drafting strategies in various forms, and the method was described in a number of articles.
The modeling of strategies in its simplest form is the prognosis of the turnover on a budget. Even here different scenarios have their place and will facilitate insight.?
However, normally in scenario planning 3 to 5 different projections are used, where the scenarios are created by varying parameters predominantly external to the company, but also internal as human resources, technology etc.
An elaborated scenario planning model, taking Kahn's work further.
Even though scenario planning normally is applied to long range strategic forecasting, and this is more applicable by large corporations; Scenario Planning does have a place for the smaller firm.
Just thinking about likely future states of the internal and the external environment of the company, and how that will impact the business, that will give valuable input to any strategy. In addition it will also give some insight into the likelihood of success of whatever strategy is being pursued at the moment.
Value Chain Analysis - Porter’s 5 forces
The theory of the 5 competitive forces was first introduced by Michael E. Porter in an article in Harvard Business Review in 1979.
Illustration of Porter's 5 competitive forces
It is a framework to analyze an industry, and determine the attractiveness of this industry. However it can also be used to determine attractiveness of different market strategies and product areas etc.
The 5 forces are:
As Porter puts it himself:
"Customers, suppliers, potential entrants, and substitute products are all competitors that may be more or less prominent or active depending on the industry.
…
The collective strength of these forces determines the ultimate profit potential of an industry."
Michael E. Porter, "How Competitive Forces Shape Strategy", Harvard Business Review, march 1979.
Michael E. Porter, "How Competitive Forces Shape Strategy", Harvard Business Review, march 1979.
You can use this framework to build a strategy for even for a smaller company which is not a large conglomerate company with tens of thousands of employees, where you can simply avoid the markets with hard competition.?
What you need to do is to delve into the reasons for the competitive forces. Why are your suppliers strong and why do your customers have special bargaining power?
When you understand the five forces intimately, you will be able to devise strategies to counteract these forces and come out on top.
An easy example is the importance of the value proposition or your USPs. When you set yourself apart from the competitors, then they will have less power, but your customers also lose their power for bargaining.
As Porter formulates it himself:
"Knowledge of these underlying sources of competitive pressure provides the groundwork for a strategic agenda of action. They highlight the critical strengths and weaknesses of the company, animate the positioning of the company in its industry, clarify the areas where strategic changes may yield the greatest payoff, and highlight the places where industry trends promise to hold the greatest significance as either opportunities or threats."
Michael E. Porter, "How Competitive Forces Shape Strategy", Harvard Business Review, march 1979.
There are 6 factors of entry barriers to an industry, which Porter sets forth:
Economies of scale, Product differentiation, Capital requirements, Cost disadvantages independent of size - which are tied into technology and experience, Access to distribution channels, Government policy - regulatory requirements for doing business
Supplier power is rooted in:
Number of suppliers. Uniqueness of the sourced product, Substitutes, Capital to do vertical integration moves, Diversification of customers for the supplier. High diversification means no dependence on a single customer group, and therefore more power
The customer power is dependent on:
Large volume buy. I.e. it hurts if they buy elsewhere.; Standard products. This makes it easy to buy elsewhere.; The product is a large part of the cost. The incentive to cut costs is high.; Low margins. The incentive to cut costs is high.; Product quality is unimportant for the customer's product.; The product gives no cost savings for the customer.; The customer is capable of vertical integration.
The competitors force is described by:
Number of competitors. High number of competitors means high competition.; Pace of the industry growth. High growth means less competition.; Degree of standardization in products.? No differentiation means higher competition.; High fixed cost or perishable products. This raises competition.; Capacity and increment of capacity. Limited capacity decreases competition.; Exit barriers. High costs of leaving the industry gives more competition.; Diverse competitor strategies. Means more competition.
An elaborated illustration of the dynamics of Porter’s 5 forces.
Balancing these powers and finding a path, which will weaken the threats and strengthen one's own possibilities, will be the key to a profitable strategy.
As Porter comments at the end of his famous article:
"The key to growth—even survival—is to stake out a position that is less vulnerable to attack from head-to-head opponents, whether established or new, and less vulnerable to erosion from the direction of buyers, suppliers, and substitute goods.
Establishing such a position can take many forms—solidifying relationships with favorable customers, differentiating the product either substantively or psychologically through marketing, integrating forward or backward, establishing technological leadership."
Michael E. Porter, "How Competitive Forces Shape Strategy", Harvard Business Review, march 1979.
The success in holding a position of a differentiated product from competition, which is also free or less exposed to the power of customers, suppliers and substitute products, that is true for any business and not only for corporate strategies for large multinational conglomerates.
So all businesses can advantageously use Porter's model of the 5 forces for analysis of their strategy and to devise actions through to profitability.
However as always knowledge of the market is key for strategizing. If you do not know the true nature of the forces, then you will not succeed.?
So this calls for a thorough competitor analysis, as well as in depth analysis of suppliers, customers and substitute products.
The analysis of suppliers and customers can be done by the same method as the competitor analysis, and a good competitor analysis will already include the substitute products.?
SWOT Analysis
SWOT is an abbreviation for Strengths, Weaknesses, Opportunities and Threats.
From the viewpoint of operating in the market and against the competition SWOT should identify the strengths and weaknesses of the business relative to competitors, and in relation to the market the opportunities and threats faced by the business.
Illustration of a SWOT-analysis
Opportunities and threats are also closely related to the external forces facing the company, the competences, capabilities, staff and skills by example. This is naturally also directly related to the strengths and weaknesses possessed by the company. However these can only be assessed by a comparative analysis, i.e. it is a measurement against the competition.
Normally this measurement is done as an en passant analysis. However this requires a basis of a very good market analysis and a thorough competitor analysis. Otherwise it will simply just be a mind map of the beliefs of some random assortment of managers in the company, often with a high degree of self-gratifying depreciation of the competition - without basis in facts.
Therefore this tool's simplicity is both a strength and a clear danger. You can with very limited work think that you have done some valuable strategic work, which in fact is worth nothing.
For the SWOT-analysis to work well, you will need, as in any other method or tool, to have a good system for gathering facts in place, as well as a systematic and structured representation of facts, uncertainties and assumptions. For example, without a good competitor analysis in place, the results of a SWOT-analysis will most likely be haphazard.
The elements in a basic competitor analysis
Sometimes the SWOT-analysis is conflated with situational analysis, and this is for good reason. A SWOT-analysis says more about what the situation entails than what to do about this, or what direction to take in the future to improve on the current situation.
The analysis is most often applied to the external environment, however in order to be really helpful for strategizing, you should evaluate on all levels: input, operation and output.
Opportunities can be internal, whereas it is often the market opportunities that are described, you may also have real opportunities in technology applied, business processes, alliances with suppliers etc. Threats can be internal as well, a strength that might be turned into a weakness if a trend continues, or some other internal element in operations or the organization.
In general Threats and Weaknesses are opportunities for improvement, however one should start the SWOT analysis by simply describing things as they are, so a situational description. Then the possibilities for change can be analyzed and the advantages of different improvements mapped or simply placed where appropriate in the 4 quadrants.
An illustration of a PEST-analysis, which is very similar to a SWOT-analysis
PEST-analysis is more or less the same as SWOT-analysis, even though it concentrates on seemingly different variables.?
PEST is an abbreviation of Political, Economic, Socio-cultural and Technological. These are macro elements that describe the situation which the firm faces in the market, and to some degree also encompasses competitors. This can also include factors such as legal, demographic, economic etc.?
In a good SWOT-analysis most of the PEST-elements should be included
So in essence it is an analysis of all macro exogenous elements facing the company, and then the endogenous factors can also be added, and then it is more or less a SWOT-analysis.
The BCG Matrix or Portfolio Analysis
The Boston Consulting Group (BCG) matrix is a matrix that depicts products according to growth and market share. BCG names the matrix “the growth share matrix” themselves, however it is most often referred to as simply the “BCG matrix”.
The BCG Matrix was first discussed in an article by Bruce Henderson in 1970 in BCGs own publication.
The Matrix is comprised of four quadrants representing a specific combination of relative market share and growth:
Bruce Henderson, “The Product Portfolio”, Boston Consulting Group, 1970
Henderson takes a simplistic approach to profitability and asserts that:
“Margins and cash generated are a function of market share. High margins and high market share go together. This is a matter of common observation, explained by the experience curve effect.”
Bruce Henderson, “The Product Portfolio”, Boston Consulting Group, 1970
So high market share means that you have more experience, and thus economies of scale, and then your margins go up further. This might be the case across a very large number of companies in any given market, however viewed from a single company it is not that simple.?
You may have a disproportionately good mix of resources and technology compared to your market share, so you will eventually gain share, but what you want is to get there now, and you have the potential.?
Once you are a market leader, you will have the experience through volume, and you will thus through economies of scale have a higher margin than the market in general. This will place you in a position to stay in the top of the market as the dominant company. That is; if you invest in tomorrow, both in sales, marketing, technology, product development and in general deal with the rest of the opportunities and threats facing the company.
However, the matrix is a good starting point for analysis of the market and the products. Just having some framework to direct the thinking process in these areas will help.
So in Henderson's view you should avoid the ‘dogs’ as they are not generating cash, and they are also not about to move to a place where they will be generating cash. So it is Sisyphus-work! You generate enough profits to keep the business going, but all cash has to be invested into the business to keep the market share. So what you are doing is keep idling the engine - people are working and assets are in place, but they only keep themselves alive and nothing more.
What you want is ‘cash cows’ to generate cash to invest into question marks, which can be the next stars, and the stars should progress to become cash cows. Then you will have a great ‘Product Portfolio”.
Bruce Henderson, “The Product Portfolio”, Boston Consulting Group, 1970
This view might be correct, however there is nothing that says that a dog is not simply mismanaged.?
You might be deploying the resources in the wrong way, not taking advantage of your available technology in the right manner, or simply just not marketing the product properly to the market.?
No matter what, there is no question that a dog needs attention, and it might even need to be put down.?
However, that goes for all 4 categories.?
You want to keep the cash cow generating cash as long as possible. You want to make sure the question mark does not become a dog but evolves to a star, and in the end a star can fail too, so that also needs attention.
All the types of businesses need proper attention from a management point of view, and even divestments need proper management in the process.?
BCG Matrix - in defense of the dog
The BCG-matrix is a good starting point for mapping out products and their potential and how to develop an ever increasing company.
However for most small or mid-sized companies up to a couple of thousand employees or more, this is not so straightforward.?
When you are in a big corporation with 100.000 employees, with perhaps 50 plus individual companies in the group, then the BCG-matrix makes perfect sense. What you want to do is to invest organically in the good product lines and buy successful ones or some with great potential for your acquisition growth.?
However the stars and cash cows are made by hard work not simply a great business model arising by itself.?
Many startups will go through the phase of a question mark, then become a dog and then after further struggles will become a star or a cash cow. So therefore the dog has potential to develop.
Not all companies with low market share and low growth (dogs) should be put down
Any business that is currently a dog will have the potential to become a star. Maybe you have an unprofessional sales force of only farmers in place, maybe you need to rationalize and optimize your cost structure, maybe your production is suffering from bad processes and subpar planning, maybe you have not put in place any real marketing effort, etc. etc.?
There are many, many ways in which you can improve a dog to become a star. None of these are easy - they all take effort and hard work.?
However, in almost any industry, there are dogs and stars, so it is possible to become a star.
The whole BCG-matrix is a conceptual framework, which is not always a true representation of reality.
Is it not possible to have low growth and low market share and still be profitable and make cash? That is, the possibility of being a dog that lives a good cash-generating life.?
Of course it is possible, and you can find a lot of these companies. The same goes for a star. Will you be generating negative cash flow just because you have a low market share and a high growth - not necessarily. You might be making a very healthy cash flow which is more than enough to invest in the growth.
Even a dog can generate cash, and with the right attention might become a cash cow
However, in general such positive situations are not sustainable, as you as a dog will be outperformed by others, and the cash cows and stars will eliminate you.?
In most industries this will happen to contenders to the throne, but that is not really the situation for a dog. Albeit, living a small quiet life with healthy profits, you run the risk of getting eliminated by the big guys in the market, and thus it is a risky position.
But as Henderson points out, you need to keep moving, no matter who you are - if you stay still you run the risk of competitors moving, and eroding your position.?
But that goes for all companies and product lines, whether you are a star, cash cow, question mark or a dog.
The Directional Policy Matrix
The Directional Policy Matrix is a refinement of the BCG Matrix, and holds a little more complexity.
This matrix was developed by Shell Chemicals, and made public in a paper in 1977.
“The technique allows the systematic analysis of some of these qualitative considerations and enables valid comparisons to be made between business sectors and company positions, in a way which is largely independent of financial forecasts.”
Shell, “The directional policy matrix — a new aid to corporate planning”, Engineering and Process Economics, Volume 2, Issue 3, September 1977, Pages 181-189, published by Shell International Petroleum Company Limited
Shell's contribution has been further developed by many others to more complex models, however on the same basic canvas. An example is Hussey’s article from 1978 emphasizing the practical application of the directional policy matrix.?
“The article describes the experiences of several companies in adapting a technique of strategic portfolio analysis”
Hussey, D. E., ‘Portfolio Analysis: Practical Experiences with the Directional Policy
Matrix’, Long Range Planning, 11, No. 4, 1978
The Directional Policy Matrix categorizes positions according to market profitability and not market share as the BCG-Matrix, and on the other dimension it measures competitive capabilities and not growth. These variables are then divided into three areas instead of only 2 as in BCG.
Thereby we get 9 quadrants instead of only 4, and related strategies for each quadrant..
An illustration of the Directional Policy Matrix
The strategies for the 9 quadrants are:
As a further elaboration of this method, you can map products, markets, companies or whatever your level of analysis is, according to the size of turnover, or other parameters as you see fit, by placing circles with either color or size giving additional input.
Here it is the size of the circle indicating turnover:
Illustration of position with extra information from circle size
Here it is risk mapped by color and size:
Illustration of position with extra information from circle size and pattern?
This extra dimension will give you a quick insight into the positioning, and then hold more information.?
The Directional Policy Matrix is more specific than the BCG Matrix, but it essentially does the same.?
Also just mapping positions in a matrix holds little value, it is the groundwork done and systematically reported on markets, products, competitors, technology etc., which holds the real value.
LINKEDIN TRUNCATED AS THE LENGTH OF AN ARTICLE DOES NOT ALLOW FURTHER.
REQUEST THE TRUNCATED CHAPTERS IN THE COMMENTS - or read the book...
Conclusion
After a run-through of different models for thinking about strategy, different tools and different areas of thought, it can be concluded that the practical non-conceptual work that needs to be done stems from facts, and from analysis on these facts. In order to be successful, this is the hard basis to establish for strategic work, and insufficient work on this basis is often also the reason that strategy and execution fails.
Sitting behind the desk can only get you some of the way, and not doing the hard work will simply put you in a position of haphazard happy-go-lucky steering of the company.?
Data, logic, correlation, causality should be worked into a model of the business and the world facing the firm first and foremost. Then, after this tedious hard work, high flying strategic thoughts may be played around with.
However, contemplating not only the operation, the market, capabilities etc. in the current state, but also likely changes, unlikely changes, big impact and low impact, that is also a must - and the unlikely big impact circumstances are hard to come by and even harder to assess.
This all in all calls for Fact Based Management, i.e. what in this area could be called “Fact-Based Strategic Planning”.?
Building the model of today, extrapolating to the future, making prudent assumptions and varying over scenarios is the first step. I.e. strategizing should be done on this basis of a thorough understanding and analysis of the organization, the market and the environment in general.?
Producing a coherent plan of what to do to achieve a future desired state comes next, which should be grinded into an activity and action plan tied into a budget for follow-up, which can be extended by using strategy maps or balanced scorecards, or other tools for follow-up.?
“These assumptions are about markets. They are about identifying customers and competitors, their values and behavior. They are about technology and its dynamics, about a company’s strengths and weaknesses. These assumptions are about what a company gets paid for. They are what I call a company’s theory of the business.”
Peter Drucker, “Management: Tasks, Responsibilities, Practices”, 1973, ‘Chanpter 8’, page 85.
This has been presented in a suggested Integrated Model, which draws on much used and successful models working together.
You can build your strategy from a different set of tools and frameworks, however there are some basic elements that must be present for strategizing successfully.?
However the key point is to do the homework before strategizing. How you do this fact gathering and analysis is less important.?
Not even the most well thought out business model canvas will help you achieve anything; unless the basic inputs are sound.?
Doing the basic work, and then strategizing more or less systematically will be far better than the other way around - even though this is the preferred way of running a business today.
The proposed integrated model, which utilize and coordinates different frameworks and tools
Building a strategy, following up and adjusting in iteration will bring you intelligently through the changing environment.?
Follow that recipe, and you will gain both Profit & Fun.
Always believe and then do it!
9 个月Thanks for sharing!
Agriculture Specialist | Empowering Farmers with Expert Training and Affordable Agricultural Solutions
1 年Good lesson?
Digital Marketer | Strategic Solutions and Client Partnerships at MamoTechnolabs | Analytical Thinker | Growth enthusiast
1 年Ulrik, thanks for sharing!
Growth | Sales | Execution | Strategy | SaaS | Retail | Manufacturing | M&A | Finance
2 年This article is part of my book "Pragmatic Management For Results". Read a free sample here: https://read.amazon.com/sample/B0BJ9QJCCH?f=2&sid=132-1525172-1100962&rid=&cid=ALVJTQG6LKK5J&clientId=kfw&l=en_US