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The article entitled “Building Companies to Last” is based on the book Built to Last: Successful Habits of Visionary Companies by Collins and Porras. In my opinion, this is the second most important book on strategic management written after The Art of War. The article is kind of a shortened version of the book and highlights some of the key takeaways, and the Q&A piece fills in some gaps. 

Read the weekly readings carefully and answer the following questions:

  1. In your estimation, in what ways might vision statements important to the visionary firms discussed in “Building Companies to Last?” Why are they important and how might visionary firms benefit from them?
  2. Which vision/mission statement from the PowerPoint slides is the best, and which is the worst? Why are those two statements that you chose good or bad?
Q&A with Author and Professor Jerry Porras: Built to Last
Stanford University’s Jerry Porras outlines leadership strategies for driving long-term success.
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Article Summary: Organizations that identify an enduring purpose and make it an entrenched part of their cultures are likely to outperform companies that are chasing profits and fads. These companies require strong, visionary leaders. Jerry Porras, coauthor of Built to Last, says visionary leaders ingrain the essential qualities and capabilities needed to succeed into the organization’s culture. Visionary companies understand their purpose, establish core values, are unwilling to compromise on core values, and communicate their philosophies throughout their organizations. In almost every instance, they also promote from within and ultimately develop strong cultures. When Porras and coauthor James Collins studied the stock performance of 36 companies back to 1926, they found that visionary organizations have outperformed the overall market by a factor of 16 to 1.
What separates the exceptional organizations from the ordinary? That’s a question that Jerry I. Porras and James C. Collins asked several years ago in their book, Built to Last: Successful Habits of Visionary Companies (HarperBusiness, 1994). The text reveals a few striking observations: Exceptionalism is not the result of larger-than-life CEOs, it does not transcend great ideas and products, and it has nothing to do with maximizing shareholder value. “All these things come out of great companies, but that wasn’t what they set out to do,” says Porras, the Lane Professor of Organizational Behavior and Change Emeritus at Stanford University. “In almost every instance, they understood who they are and what their values are. That, in turn, led to great products and solutions.” Since Built to Last hit shelves, it has been a definitive source on corporate success, residing on bestseller lists and considered by business leaders to be one of the most influential books on leadership. iQ Magazine asked Porras what traits leaders need to be effective and transform their organizations in today’s environment of rapid change and economic uncertainty.Enduring Purpose iQ: What is Built to Last about? Porras: It’s about the values that lead to success and the reasons why some companies are phenomenally successful while others, despite having a great deal of brainpower and talent, achieve less impressive results. It’s also about what we call building an “enduring purpose” for the organization. iQ: How does an organization identify its enduring purpose? Porras: Too often, organizations develop mission statements that merely reflect what the organization does. For example, “We provide state-of-the-art solutions for the banking industry.” Instead, they should ask, What fundamental things do we offer? For example, Walt Disney Company’s purpose is to make people happy. Its leadership and employees believe if they do this really well, they will succeed and make a lot of money. In the past, Hewlett-Packard’s purpose was to make technical contributions, and Wal-Mart’s has always been to be good to its customers. These organizations push the philosophy down through the company until it permeates the culture. iQ: In your book, you describe organizations as either “clock builders” or “time tellers.” Can you explain the difference? Porras: There are two types of companies—comparison companies and visionary companies. The comparison company leader is a time teller. Employees who need to know the time and what to do, they go to that leader. The visionary company leader is a clock builder. When these leaders leave or retire, their companies don’t miss a beat. These organizations—which include the likes of American ExpressProcter & GambleGeneral ElectricSony, and Wal-Mart—continue to transform themselves because they can. While the comparison companies don’t go broke, they’re not as good at adapting to change. These companies simply don’t have the collective skills, resources, and organizational knowledge to help them adapt. Clock builders focus on building the next generation of leaders so the company doesn’t miss a beat.The Difference iQ: How different are these organizations in terms of profits and shareholder value? Porras: We studied the visionary companies dating back to 1926 and found they collectively outperformed the stock market by a factor of 16 to 1. They also outperformed the comparison companies by a factor of 4 to 1. What’s interesting is that they didn’t set out to maximize profits and shareholder value. Instead, it happened as a result of their focus on core values and on knowing their enduring purpose as an organization. They realized that if they live their values, they will succeed. iQ: How can a company determine which qualities and values are truly important? Porras: Every company has different core values. When we researched the book, we found there was no ideal set of core values and no single value that all 18 of the visionary companies shared. One of the best ways to manage the process is to put together a group of senior managers or a cross-sectional team and let them discuss why it’s important to do what they’re doing. You get many different points of view, and from that discussion you try to capture key words and ideas to see if you can come up with a deeper statement. Along the way, it’s important to ask, Why is it important to do that? Eventually—typically three to five iterations into the why question—you get to the point where people can’t justify why they think an issue is important, it just is. More important, they will say, “I just want to be part of an organization that is doing that.” When you get to that point, you’ve probably ventured as deep as you can in making a statement of purpose.Vision Transformation iQ: What’s the best way to transform vision, purpose, and values into tangible reality? Porras: There are a lot of visions floating around that don’t get to be reality. Vision is a complex concept that consists of four components: purpose, core values, audacious goals, and vivid descriptions that convey and communicate what the other three things are all about. We came up with this comprehensive approach because vision has been a very confused term. No one agrees on what it is, and when we ask a group of managers what vision is supposed to do for an organization, they typically come up with a list of 15 to 20 items. Then we ask if the company’s vision satisfies all these requirements. And the answer is no. This indicates that there’s something missing in the way organizations think about vision. When researching the book, we asked that question about these companies and identified what they were doing that satisfied one or more of their vision requirements. That’s where we saw the four components develop. A company must guide itself toward its goals. It must also communicate and reinforce desired behavior and values. iQ: How effective are most companies in finding and maintaining a set of core values? Porras: A very small number of companies have a unique set of core values that has guided them from their earliest days and will continue to guide them 100 years from now. These are values that an organization sticks with—even if it means suffering in the short term. The question becomes, Are you willing to take a hit on profits or lose a big customer in order to live your values? That’s where the rubber meets the road. Unfortunately, 90% of companies don’t have these kinds of core values. iQ: Why is it so difficult to develop and maintain these core values? Porras: Too often, values change when leadership changes. Visionary companies define a set of core values and find ways to ensure that the values are continued across generations of leaders. These values originate in the guts of company founders or leaders and eventually become entrenched in the culture. As employees move into leadership positions, their values are consistent with those of the organization.Blueprints iQ: How can a company develop a blueprint for becoming truly visionary? Porras: A company must understand its structure and how vision transforms into organizational reality. For example, say a company’s core value is teamwork. It must examine whether its rewards and support systems are set up to encourage and support teamwork. If the company has designed jobs for people to work alone or put team members in different parts of a building or across a campus, it will probably inhibit the ability of teams to function effectively. If a building has a small number of meeting rooms, it might unwittingly sabotage team efforts. Too often, companies send mixed signals. They say they want employees to act in a certain way, but they don’t put the systems and tools in place to make the stated goals a reality. Organizations also don’t put the proper reward systems in place. For example, people get bigger and better financial rewards by acting alone than they do as part of a group. Ultimately, an organization needs to look at all its parts and make changes when it sends different signals. iQ: What are the key attributes of a Built to Last leader? Porras: When we began researching the great visionary leaders, we expected that they would be charismatic, larger-than-life types. In fact, we found that many of the best leaders were described by others as “soft-spoken,” “a good listener,” “somewhat shy,” “a bit humble,” “thoughtful,” and “professorial.” These qualities, above all, helped them become good leaders because they could relate to other people and appear human. This was an interesting finding because it says that many types of people can build visionary companies. However, the key finding was that comparison company leaders focused on creating an organization that revolved around their particular brilliance. Some were great marketers, strategists, or product idea people. As long as they were leading the organization, it was highly successful. In fact, in almost all cases, they were more successful than the visionary company leaders. Visionary leaders, on the other hand, created an organization with the capabilities to do great things well into the future. Built to Last leaders and companies are willing to take what appear to be huge risks, and they often succeed. For example, IBM had virtually no experience with the electronics business when it moved into computers; Boeing had never built a commercial jetliner before the 707; and Marriott had no background in hotels when it branched into the business. The common denominator is that leaders applied a core ideology to a new line of business and managed to expand its opportunities and profits. iQ Magazine, November/December 2002

Building Companies to Last

Inc. Special Issue—The State of Small Business

by Jim Collins

1995

In a world of constant change, the fundamentals are more important than ever

In this era of dramatic change, we’re hit from all sides with lopsided perspectives that urge us to hold nothing sacred, to “re-engineer” and dynamite everything, to fight chaos with chaos, to battle a crazy world with total, unfettered craziness. Everybody knows that the transformations facing us—social, political, technological, economic—render obsolete the lessons of the past.

Well, I submit that “everybody” is wrong. The real question is, what is the proper response to change? We certainly need new and improved business practices and organizational forms, but in a turbulent era like ours, attention to timeless fundamentals is even more important than it is in stable times.

To identify those timeless fundamentals, Jerry Porras and I embarked upon the intensive six-year research project that led to our book Built to Last. We studied the founding, growth, and development of exceptional companies that have stood the test of time, companies like Hewlett-Packard, 3M, Motorola, Procter & Gamble, Merck, Nordstrom, Sony, Disney, Marriott, and Wal-Mart. Those “visionary companies” had both endurance, with an average age of nearly 100 years, and sustained performance. For example, their stock has performed 15 times better than the overall stock market has since 1926. We also studied each visionary company in contrast to a “comparison company” that had roughly the same shot in life but didn’t turn out as well—3M with Norton, P&G with Colgate-Palmolive, Motorola with Zenith, and so on.

By studying companies that have prospered over the long term, we were able to uncover timeless fundamentals that enable organizations to endure and thrive. We studied those visionary companies not only as big business but also as start-ups and growth companies. And they succeeded from their earliest days by adhering to the same fundamentals that can help today’s growth companies emerge from the turbulence of the 1990s to become the HPs, 3Ms, and P&Gs of the 21st century. By paying attention to the six timeless fundamentals that follow, you can learn from what those organizations did right and build your own visionary company.

Make the company itself the ultimate product—be a clock builder, not a time teller

Imagine that you met a remarkable person who could look at the sun or the stars and, amazingly, state the exact time and date. Wouldn’t it be even more amazing still if, instead of telling the time, that person built a clock that could tell the time forever, even after he or she were dead and gone?

Having a great idea or being a charismatic visionary leader is “time telling;” building a company that can prosper far beyond the tenure of any single leader and through multiple product life cycles is “clock building.” Those who build visionary companies tend to be clock builders. Their primary accomplishment is not the implementation of a great idea, the expression of a charismatic personality, or the accumulation of wealth. It is the company itself and what it stands for.

Take for example, T.J. Rodgers, founder and CEO of Cypress Semiconductor. Brilliant, self-assured, technically sophisticated, and guided by a fierce “take no prisoners” drive to win. Rodgers came to Jerry and me several years ago. “I want to go beyond the fast-growing entrepreneurial success,” Rogers told us. “I want to build Cypress into a monument company.”

“Tell me, T.J.,” I responded, “what is the most important product you are working on right now?” He threw out a highly technical name. I disagreed with him.

“How can you?” he asked. “You don’t know the technology. You don’t know my business the way I do. You don’t know the market.”

I then told him how David Packard, when asked to name the most important product decisions contributing to Hewlett-Packard’s remarkable growth rate, answered entirely in terms of the attributes of the Hewlett-Packard organization—the importance of granting immense operating freedom within well-defined objectives, the pay-as-you-go policy that enforces entrepreneurial discipline, the critical decision to enable all employees to share in the company’s financial success. David Packard was clearly a clock-building leader.

Now, whenever T.J. Rodgers is asked about the most important product he is working on, he answers firmly, “Cypress Semiconductor Corporation.” By making the shift from time telling (being a great product visionary) to clock building (creating a great organization), he has taken perhaps the single most important step in transforming his hot-growth company into a visionary company that’s built to last.

Achieving that transformation requires turning the world upside down and inside out, seeing products and market opportunities as vehicles for building a great company, not the other way around. In fact, only 3 of our 18 visionary companies began life with a “great idea.” As we move into the 21st century and products, technologies, and markets blast through their life cycles, clock-building styles of leadership will become even more important.

Build your company around a core ideology

In 17 of the 18 pairs of companies in our research, we found the visionary company was guided more by a core ideology—core values and a sense of purpose beyond just making money—than the comparison company was. A deeply held core ideology gives a company both a strong sense of identity and a thread of continuity that holds the organization together in the face of change.

We chose the word ideology because we found an almost religious fervor in the visionary companies as they grew up that we did not see to the same degree in the comparison companies. 3M’s dedication to innovation, P&G’s commitment to product excellence, Nordstrom’s ideal of heroic customer service, HP’s belief in respect for the individual—those were sacred tenets, to be pursued zealously and preserved as a guiding force for generations.

Build a cult-like culture

Architects of visionary companies don’t just trust in good intentions or “values statements;” they build cult-like cultures around their core ideologies. Walt Disney created an entire language to reinforce his company’s ideology. Disneyland employees are “cast members.” Customers are “guests.” Jobs are “parts” in a “performance.” Disney required—as the company does to this day—that all new employees go through a “Disney Traditions” orientation course, in which they learn the company’s business is “to make people happy.”

The same spirit holds at smaller visionary companies, like Granite Rock, a rock-and-asphalt business in Watsonville, CA., and recipient of the 1992 Malcolm Baldrige National Quality Award (See “The Change Masters,” Inc., March 1992.) Co-CEO Bruce W. Woolpert hates the word “employees;” they are “Granite Rock People.” And not just anyone can be a Granite Rock Person. Bruce and Steve Woolpert have a deeply rooted ideology of quality, service, and fairness that harks back to the early days of this century, and if you don’t accept that ideology, you simply don’t belong at Granite Rock. Period. No matter how much business you might bring in.

Homegrow your management

In more than 1,700 years of combined history, we found only four cases in our visionary companies in which an outsider was hired as chief executive—and that in only 2 of the 18 companies! In contrast, our less successful comparison companies were six times more likely to go outside for a CEO. Our findings simply do not support the widely held belief that companies should hire outsiders to stimulate change and progress.

Indeed, as great companies grow up, we see continuity and order in management tenure and succession. Insiders preserve the core values, understanding them on a gut level in a way that outsiders usually cannot. Yet insiders can also be change agents, building on the core values while moving the company in exciting new directions.

Bob Galvin spent years learning from his father, Paul Galvin, founder of Motorola, before becoming CEO. Bob Galvin then kept Motorola’s core ideology intact and simultaneously revolutionized the company. At the very moment he began that revolution, by moving the company out of television sets and into solid-state electronics, integrated circuits, and cellular communications, Bob Galvin also began succession planning for the next generation of leadership—a full quarter of a century before he would pass the reins—to maintain a lineage of homegrown leaders to preserve Motorola’s core values.

At our comparison companies we frequently saw management gaps—often due to egocentric leaders who simply could not conceive of the organization without themselves at the helm. “Commander” Eugene F. MacDonald Jr., the brilliant founder of Zenith, never planned for his succession. Since his death in the late 1950s, Zenith has been plagued by spotty leadership—at times from the outside—that allowed the company to drift from its founding values. Motorola, however, has sailed on into exciting new arenas for the past 30 years, guided by an unbroken string of capable, long-tenured, homegrown leaders. What has Zenith done?

The notion that “founder-entrepreneur types” are constitutionally incapable of building and managing companies is bunk. Consider that the founders of Ford, Hewlett-Packard, Johnson & Johnson, Marriott, Merck, Motorola, Nordstrom, Philip Morris, Procter & Gamble, Sony, Wal-Mart, and Disney remained in the role of chief executive for an average of 37 years each. They were founder-entrepreneur types and manager-builder types. Not only that, their immediate successors—all homegrown insiders—remained in offsice for 24 years on average. Stability indeed.

Stimulate progress through BHAGs, experimentation, and continuous improvement

To build a visionary company, you need to counterbalance its fixed core ideology with a relentless drive for progress. While core ideology provides continuity, stability, and cohesion, the drive for progress promotes change, improvement, innovation, and renewal.

One way to bring that drive for progress to life is through BHAGs (short for Big Hairy Audacious Goals). With his very first dime store in 1945, Sam Walton set the BHAG to “make my little Newport store the best, most profitable in Arkansas within five years.” As the company grew, Walton set BHAG after BHAG, including the still-in-place goal to become a $125-billion company by the year 2000. The point is not to find the “right” BHAGs but to create BHAGs so clear, compelling, and imaginative that they fuel progress.

A second way to simulate the drive for progress is to create an environment that encourages people to experiment and learn—to try a lot of stuff and keep what works. 3M began life as a failed mine and could not pay its first president a salary for 11 years. Yet it grew into one of the most innovative companies in history, eventually branching into more than 60,000 new products. In contrast, Norton (3M’s comparison in our study) began life with a revolutionary new grinding wheel that propelled the company to spectacular early growth. Yet Norton became a stodgy old-line company, with no reputation for sustained innovation. 3M’s clock builders created an environment where people were encouraged to try just about anything, and were given 15% of their time to do so. “Our company has, indeed, stumbled onto some of its new products,” an early CEO once noted. “But never forget that you can stumble only if you’re moving.” Norton, on the other hand, stifled experimentation and discouraged people from working on anything but grinding wheels. “You could work on anything you wanted as long as it was round and had a hole in it,” recalled one Norton research scientist.

In a visionary company, continuous improvement is a way of life, not a management fad. The critical question is not “How can we do well?” or “How can we meet the competition?” but “How can we do better tomorrow than we did today?” The challenge is to build for the long term while doing well today.

Embrace “the genius of the and”

If there’s one lesson from our finding to keep in mind above all others, it is this: Clock build your company so that it preserves a passionately held core ideology and simultaneously stimulates progress in everything but that ideology. Preserve the core and stimulate progress. A truly visionary company embraces both ends of a continuum: continuity and change, conservatism and progressiveness, stability and revolution, predictability and chaos, heritage and renewal, fundamentals and craziness. And, and, and.

Take Sam Walton, who thrived on frenetic activity and created an organization that encouraged employees to experiment with crazy ideas like hanging stuffed monkeys from a tree as part of a store promotion on romping through the “Wal-Mart cheer” or Walton himself shimmy-shaking down Wall Street in a hula skirt. But you can be crazy at Wal-Mart only if you’re first and foremost serving the customer. “If you’re not serving the customer or supporting the folks who do,” Walton held, “then we don’t need you.”

The same adherence to a core ideology holds true at Manco, a company in Cleveland. (See “Steal This Strategy,” Inc., February 1991.) Manco is raucous and fast moving. People in yellow duck outfits waddle through the halls. (Manco sells duct tape, which sounds like duck, and, well, you get the idea.) To celebrate successes, top salespeople yell the Manco cheer and plunge into an ice-cold pond. Plus, people have wide latitude to make decisions and act fast without waiting for approval from above.

Yet Manco’s CEO Jack Kahl has clearly built his company around a few tightly fixed core values—quality, service, respect, and a love of learning. The company is also passionate about getting the nuts and bolts consistently right. Is Manco an irreverent, crazy organization, or is it a religiously disciplined organization? Both! Like Wal-Mart, Manco embraces “The Genius of the And.”

We read much these days about radical new business practices and organizational forms: “virtual” corporations, “empowered” organizations, “neo-biological” organizations, and so on. And that is good. Indeed, the ability to create organizational innovations is more important in building a great company than the ability to create product, technology, and market innovations.

Yet the truly great companies of the 21st century will change within the context of their core ideologies while also adhering to a few timeless fundamentals. In The Idea of Ideas, Bob Galvin, former CEO of Motorola, wrote: “Change unto itself is essential. But, taken alone: it is limited. Yes, renewal is change. It calls for ‘do differently.’ It is willing to replace and redo. But it also cherishes the proven basics.” By being clear about their core vales and guiding purpose—about what should not change—companies can feel liberated to experiment with everything else.

Chapter 1: Strategic Management and Strategic Competitiveness

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publicly accessible website, in whole or in part.

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Chapter 1

Strategic Management and Strategic Competitiveness

LEARNING OBJECTIVES

1. Define strategic competitiveness, strategy, competitive advantage, above-average returns,

and the strategic management process.

2. Describe the competitive landscape and explain how globalization and technological changes

shape it.

3. Use the industrial organization (I/O) model to explain how firms can earn above-average

returns.

4. Use the resource-based model to explain how firms can earn above average-returns.

5. Describe vision and mission and discuss their value.

6. Define stakeholders and describe their ability to influence organizations.

7. Describe the work of strategic leaders.

8. Explain the strategic management process.

LECTURE NOTES

OPENING CASE

The Global Impact of the Golden Arches

McDonald’s is a global company with broad market penetration and an extremely strong brand. It is larger and more successful than its rivals. As the case notes, however,

McDonald’s success makes it an easy target. Public reaction to a 2012 ad turned from positive to negative as criticism of its food and link to the obesity problem were spread via

social media. The company responded by offering healthy menu options and including

nutritional information on its packaging. It also has added Wi-Fi in its stores to attract

more customers (especially students). Even though the company is successful it must be

constantly aware of changing conditions that might impact its costs, demand, and ability to

perform.

1 Define strategic competitiveness, strategy, competitive advantage,

above-average returns, and the strategic management process.

Strategic competitiveness is achieved when a firm successfully formulates and implements a

value-creating strategy. By implementing a value-creating strategy that current and potential

competitors are not simultaneously implementing and that competitors are unable to

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duplicate, or find too costly to imitate, a firm achieves a competitive advantage.

Strategy can be defined as an integrated and coordinated set of commitments and actions

designed to exploit core competencies and gain a competitive advantage.

So long as a firm can sustain (or maintain) a competitive advantage, investors will earn

above-average returns. Above-average returns represent returns that exceed returns that

investors expect to earn from other investments with similar levels of risk (investor

uncertainty about the economic gains or losses that will result from a particular investment).

In other words, above average-returns exceed investors’ expected levels of return for given risk levels.

In smaller new venture firms, performance is sometimes measured in terms of the amount

and speed of growth rather than more traditional profitability measures—new ventures require time to earn acceptable returns.

A framework that can assist firms in their quest for strategic competitiveness is the strategic

management process, the full set of commitments, decisions and actions required for a firm

to systematically achieve strategic competitiveness and earn above-average returns. This

process is illustrated in Figure 1.1.

FIGURE 1.1

The Strategic Management Process

Figure 1.1 illustrates the dynamic, interrelated nature of the elements of the strategic

management process and provides an outline of where the different elements of the process

are covered in this text.

Feedback linkages among the three primary elements indicate the dynamic nature of the

strategic management process: strategic inputs, strategic actions, and strategic outcomes.

 Analysis, in the form of information gained by scrutinizing the internal environment and scanning the external environment, are used to develop the firm’s vision and mission.

 Strategic actions are guided by the firm’s vision and mission, and are represented by strategies that are formulated or developed and subsequently implemented or put into

action.

 Desired performance—strategic competitiveness and above-average returns—result when a firm is able to successfully formulate and implement value-creating strategies that others

are unable to duplicate.

 Feedback links the elements of the strategic management process together and helps firms

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continuously adjust or revise strategic inputs and strategic actions in order to achieve

desired strategic outcomes.

In addition to describing the impact of globalization and technological change on the current

business environment, this chapter also discusses two approaches to the strategic

management process. The first, the industrial organization model, suggests that the external

environment should be considered as the primary determinant of a firm’s strategic actions. The second is the resource-based model, which perceives the firm’s resources and capabilities (the internal environment) as critical links to strategic competitiveness.

Following the discussion in this chapter, as well as in Chapters 2 and 3, students should see

that these models must be integrated to achieve strategic competitiveness.

2 Describe the competitive landscape and explain how globalization

and technological changes shape it.

THE COMPETITIVE LANDSCAPE

The competitive landscape can be described as one in which the fundamental nature of

competition is changing in a number of the world’s industries. Further, the boundaries of industries are becoming blurred and more difficult to define.

Consider recent changes that have taken place in the telecommunication and TV industries— e.g., not only cable companies and satellite networks compete for entertainment revenue from

television, but telecommunication companies also are stepping into the entertainment

business through significant improvements in fiber-optic lines. Partnerships further blur

industry boundaries (e.g., MSNBC is co-owned by NBC, itself owned by General Electric

and Microsoft).

The contemporary competitive landscape thus implies that traditional sources of competitive

advantage—economies of scale and large advertising budgets—may not be as important in the future as they were in the past. The rapid and unpredictable technological change that

characterizes this new competitive landscape implies that managers must adopt new ways of

thinking. The new competitive mind-set must value flexibility, speed, innovation, integration,

and the challenges that evolve from constantly changing conditions.

A term often used to describe the new realities of competition is hypercompetition, a

condition that results from the dynamics of strategic moves and countermoves among

innovative, global firms: a condition of rapidly escalating competition that is based on price-

quality positioning, efforts to create new know-how and achieve first-mover advantage, and

battles to protect or to invade established product or geographic markets (discussed in more

detail in Chapter 5).

The Global Economy

Chapter 1: Strategic Management and Strategic Competitiveness

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A global economy is one in which goods, services, people, skills, and ideas move freely

across geographic borders.

The emergence of this global economy results in a number of challenges and opportunities.

For instance, Europe is now the world’s largest single market (despite the difficulties of adapting to multiple national cultures and the lack of a single currency. The European Union

has become one of the world’s largest markets, with 700 million potential customers.

Today, China is seen as an extremely competitive market in which local market-seeking

MNCs (multinational corporations) fiercely compete against other MNCs and local low-cost

producers. China has long been viewed as a low-cost producer of goods, but here’s an interesting twist. China is now an exporter of local management talent. Procter & Gamble

actually exports Chinese management talent; it has been dispatching more Chinese abroad

than it has been importing expatriates to China.

STRATEGIC FOCUS

Starbucks is a New Economy Multinational

Starbucks is a large and innovative multinational firm with growth expectations in both its

domestic and international markets. It plans to significantly increase its presence in Asian

markets and has tailored its strategy to local conditions to position itself for growth (store

size, flavors, and teas). In fact, Starbucks expects China to become its second largest market

in the very near future. Vietnam and India are additional markets the company is targeting.

On the other hand, the company’s experience in Europe has been mixed. The European ‘coffee culture,’ built around the café experience, was difficult for the company to penetrate with its traditional business model. To grow in Europe, Starbucks is now building larger

stores to improve seating and encourage customers to linger, and developed products to

appeal to local (country) cultures and tastes. In addition, the company has set its sights on

other markets (instant coffee, single-serving coffee, tea, juice, and bakery).

The March of Globalization

Globalization is the increasing economic interdependence among countries as reflected in the

flow of goods and services, financial capital, and knowledge across country borders. This is

illustrated by the following:

 Financial capital might be obtained in one national market and used to buy raw materials in another one.

 Manufacturing equipment bought from another market produces products sold in yet another market.

 Globalization enhances the available range of opportunities for firms.

Global competition has increased performance standards in many dimensions, including

quality, cost, productivity, product introduction time, and operational efficiency. Moreover,

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these standards are not static; they are exacting, requiring continuous improvement from a

firm and its employees. Thus, companies must improve their capabilities and individual

workers need to sharpen their skills. In the twenty-first century competitive landscape, only

firms that meet, and perhaps exceed, global standards are likely to earn strategic

competitiveness.

Although globalization seems an attractive strategy for competing in the current competitive

landscape, there are risks as well. These include such factors as:

 The “liability of foreignness” (i.e., the risk of competing internationally)  Overdiversification beyond the firm’s ability to successfully manage operations in multiple

foreign markets

A point to emphasize: entry into international markets requires proper use of the strategic

management process.

Though global markets are attractive strategic options for some companies, they are not the

only source of strategic competitiveness. In fact, for most companies, even for those capable

of competing successfully in global markets, it is critical to remain committed to and

strategically competitive in the domestic market. And domestic markets can be testing

grounds for possibly entering an international market at some point in the future.

Technology and Technological Changes

Three technological trends and conditions are significantly altering the nature of competition:

 Increasing rate of technological change and diffusion  The information age  Increasing knowledge intensity

Technologic Diffusion and Disruptive Technologies

Both the rate of change and the introduction of new technologies have increased greatly over

the last 15 to 20 years.

A term that is used to describe rapid and consistent replacement of current technologies by

new, information-intensive technologies is perpetual innovation. This implies that

innovation—discussed in more detail in Chapter 13—must be continuous and carry a high priority for all organizations.

The shorter product life cycles that result from rapid diffusion of innovation often means

that products may be replicated within very short time periods, placing a competitive

premium on a firm’s ability to rapidly introduce new products into the marketplace. In fact, speed-to-market may become the sole source of competitive advantage. In the computer

industry during the early 1980s, hard disk drives would typically remain current for four to

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six years, after which a new and better product became available. By the late 1980s, the

expected life had fallen to two to three years. By the 1990s, it was just six to nine months.

The rapid diffusion of innovation may have made patents a source of competitive advantage

only in the pharmaceutical and chemical industries. Many firms do not file patent

applications to safeguard (for at least a time) the technical knowledge that would be disclosed

explicitly in a patent application.

Disruptive technologies (in line with the Schumpeterian notion of “creative destruction”) can destroy the value of existing technologies by replacing them with new ones. Current

examples include the success of iPods, PDAs, and WiFi.

The Information Age

Changes in information technology have made rapid access to information available to firms

all over the world, regardless of size. Consider the rapid growth in the following

technologies: personal computers (PCs), cellular phones, computers, personal digital

assistants (PDAs), artificial intelligence, virtual reality, and massive databases. These

examples show how information is used differently as a result of new technologies. The

ability to access and use information has become an important source of competitive

advantage in almost every industry.

 There have been dramatic changes in information technology in recent years.  The number of PCs is expected to grow to 2.3 billion by 2015.  The declining cost of information technology.  The Internet provides an information-carrying infrastructure available to individuals and

firms worldwide.

The ability to access a high level of relatively inexpensive information has created strategic

opportunities for many information-intensive businesses. For example, retailers now can use

the Internet to provide shopping to customers virtually anywhere.

Increasing Knowledge Intensity

It is becoming increasingly apparent that knowledge—information, intelligence, and expertise—is a critical organizational resource, and increasingly, a source of competitive advantage. As a result,

 Many companies are working to convert the accumulated knowledge of employees into a corporate asset;

 Shareholder value is increasingly influenced by the value of a firm’s intangible assets, such as knowledge;

 There is a strong link between knowledge and innovation.

Note: Intangible assets are discussed more fully in Chapter 3.

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The implication of this discussion is that to achieve strategic competitiveness and earn above-

average returns, firms must develop the ability to adapt rapidly to change or achieve strategic

flexibility.

Strategic flexibility represents the set of capabilities—in all areas of their operations—that firms use to respond to the various demands and opportunities that are found in dynamic,

uncertain environments. This implies that firms must develop certain capabilities,

including the capacity to learn continuously, that will provide the firm with new skill sets.

However, those working within firms to develop strategic flexibility should understand

that the task is not an easy one, largely because of inertia that can build up over time. A

firm’s focus and past core competencies may actually slow change and strategic flexibility.

Two models describing key strategic inputs to a firm’s strategic actions are discussed next: the

Industrial Organization (or externally focused) model and the Resource-Based (or internally

focused) model.

3 Use the industrial organization (I/O) model to explain how firms

can earn above-average returns.

THE I/O MODEL OF ABOVE AVERAGE RETURNS

The I/O or Industrial Organization model adopts an external perspective to explain that forces

outside of the organization represent the dominant influences on a firm’s strategic actions. In

other words, this model presumes that the characteristics of and conditions present in the

external environment determine the appropriateness of strategies that are formulated and

implemented in order for a firm to earn above-average returns. In short, the I/O model

specifies that the choice of industries in which to compete has more influence on firm

performance than the decisions made by managers inside their firm.

The I/O model is based on the following four assumptions:

1. The external environment—the general, industry, and competitive environments impose pressures and constraints on firms and determine strategies that will result in superior

returns. In other words, the external environment pressures the firm to adopt strategies to

meet that pressure while simultaneously constraining or limiting the scope of strategies

that might be appropriate and eventually successful.

2. Most firms competing in an industry or in an industry segment control similar sets of

strategically relevant resources and thus pursue similar strategies. This assumption

presumes that, given a similar availability of resources, most firms competing in a specific

industry (or industry segment) have similar capabilities and thus follow strategies that are

similar. In other words, there are few significant differences among firms in an industry.

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3. Resources used to implement strategies are highly mobile across firms. Significant

differences in strategically relevant resources among firms in an industry tend to disappear

because of resource mobility. Thus, any resource differences soon disappear as they are

observed and acquired or learned by other firms in the industry.

4. Organizational decision-makers are assumed to be rational and committed to acting only in

the best interests of the firm. The implication of this assumption is that organizational

decision-makers will consistently exhibit profit-maximizing behaviors.

According to the I/O model, which was a dominant paradigm from the 1960s through the

1980s, firms must pay careful attention to the structured characteristics of the industry in

which they choose to compete, searching for one that is the most attractive to the firm, given

the firm’s strategically relevant resources. Then, the firm must be able to successfully

implement strategies required by the industry’s characteristics to be able to increase their level

of competitiveness. The five forces model is an analytical tool used to address and describe

these industry characteristics.

FIGURE 1.2

The I/O Model of Above-Average Returns

Based on its four underlying assumptions, the I/O model prescribes a five-step process for

firms to achieve above-average returns:

1. Study the external environment—general, industry, and competitive—to determine the characteristics of the external environment that will both determine and constrain the

firm’s strategic alternatives.

2. Locate an industry (or industries) with a high potential for returns based on the structural

characteristics of the industry. A model for assessing these characteristics, the Five Forces

Model of Competition, is discussed in Chapter 2.

3. Based on the characteristics of the industry in which the firm chooses to compete,

strategies that are linked with above-average returns should be selected. A model or

framework that can be used to assess the requirements and risks of these strategies (the

generic strategies called cost leadership & differentiation) are discussed in detail in

Chapter 4.

4. Acquire or develop the critical resources—skills and assets—needed to successfully implement the strategy that has been selected. A process for scrutinizing the internal

environment to identify the presence or absence of critical skills is discussed in Chapter 3.

Skill-enhancement strategies, including training and development, are discussed in

Chapter 11.

5. The I/O model indicates that above-average returns will accrue to firms that successfully

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implement relevant strategic actions that enable the firm to leverage its strengths (skills

and resources) to meet the demands or pressures and constraints of the industry in which

it has elected to compete. The implementation process is described in Chapters 10

through 13.

The I/O model has been supported by research indicating:

 20% of firm profitability can be explained by industry characteristics  36% of firm profitability can be attributed to firm characteristics and the actions taken by

the firm

 Overall, this indicates a reciprocal relationship—or even an interrelationship—between industry characteristics (attractiveness) and firm strategies that result in firm performance

STRATEGIC FOCUS

The Airlines Industry Exemplifies the I/O Model – Imitation and Poor Performance

The airline industry is a real-world example of the I/O model. Airlines are very similar with

respect to services, routes, and performance since the industry was deregulated. When an

airline does adapt something new, it is commonly imitated very quickly. A major

characteristic of the industry, both in the U.S. and Europe, is consolidation. This does little to

spur differentiation among competitors. The primary source of competitive advantage comes

from making fewer mistakes such as lost bags, flight cancellations, and delays. In the current

environment, most airlines are trying to cut costs (sometimes through scale), and generate

revenue by charging for amenities that used to be provided at no cost to travelers. In the

Strategic Focus, Southwest Airlines is noted as a strong performer due to the fact that it is

both efficient and has developed resources and capabilities over time that its more traditional

rivals have not.

4 Use the resource-based model to explain how firms can earn

above average-returns.

THE RESOURCE-BASED MODEL OF ABOVE-AVERAGE RETURNS

The resource-based model adopts an internal perspective to explain how a firm’s unique

bundle or collection of internal resources and capabilities represent the foundation on which

value-creating strategies should be built.

Resources are inputs into a firm’s production process, such as capital equipment, individual

employee’s skills, patents, brand names, finance, and talented managers. These resources can

be tangible or intangible.

Capabilities are the capacity for a set of resources to perform—integratively or in combination—a task or activity.

Core competencies are resources and capabilities that serve as a source of competitive

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advantage for a firm. Often related to functional skills (e.g., marketing at Philip Morris), core

competencies—when developed, nurtured, and applied throughout a firm—may result in strategic competitiveness.

FIGURE 1.3

The Resource-Based Model of Above-Average Returns

The resource-based model of above-average returns is grounded in the uniqueness of a firm’s

internal resources and capabilities. The five-step model describes the linkages between

resource identification and strategy selection that will lead to above-average returns.

1. Firms should identify their internal resources and assess their strengths and weaknesses.

The strengths and weaknesses of firm resources should be assessed relative to

competitors.

2. Firms should identify the set of resources that provide the firm with capabilities that are

unique to the firm, relative to its competitors. The firm should identify those capabilities

that enable the firm to perform a task or activity better than its competitors.

3. Firms should determine the potential for their unique sets of resources and capabilities to

outperform rivals in terms of returns. Determine how a firm’s resources and capabilities can be used to gain competitive advantage.

4. Locate an attractive industry. Determine the industry that provides the best fit between the

characteristics of the industry and the firm’s resources and capabilities.

5. To attain a sustainable competitive advantage and earn above-average returns, firms

should formulate and implement strategies that enable them to exploit their resources and

capabilities to take advantage of opportunities in the external environment better than

their competitors.

Resources and capabilities can lead to a competitive advantage when they are valuable, rare,

costly to imitate, and non-substitutable.

 Resources are valuable when they support taking advantage of opportunities or neutralizing external threats.

 Resources are rare when possessed by few, if any, competitors.  Resources are costly to imitate when other firms cannot obtain them inexpensively

(relative to other firms).

 Resources are non-substitutable when they have no structural equivalents.

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5 Describe vision and mission and discuss their value.

VISION AND MISSION

Vision

Vision is a picture of what the firm wants to be, and in broad terms, what it wants to

ultimately achieve. Vision is “big picture” thinking with passion that helps people feel what they are supposed to be doing.

Vision statements:

 Reflect a firm’s values and aspirations  Are intended to capture the heart and mind of each employee (and hopefully, many of its

other stakeholders)

 Tend to be enduring, whereas its mission can change in light of changing environmental conditions

 Tend to be relatively short and concise, easily remembered  Rely on input from multiple key stakeholders

Examples of vision statements:

 Our vision is to be the world’s best quick service restaurant. (McDonald’s)  To make the automobile accessible to every American (Ford’s vision when established by

Henry Ford)

The CEO is responsible for working with others to form the firm’s vision. However, experience shows that the most effective vision statement results when the CEO involves a

host of people to develop it.

A vision statement should be clearly tied to the conditions in the firm’s external and internal environments and it must be achievable. Moreover, the decisions and actions of those

involved with developing the vision must be consistent with that vision.

Mission

A firm’s mission is an externally focused application of its vision that states the firm’s unique

purpose and the scope of its operations in product and market terms.

As with the vision, the final responsibility for forming the firm’s mission rests with the CEO, though the CEO and other top-level managers tend to involve a larger number of people in

forming the mission. This is because middle- and first-level managers and other employees

have more direct contact with customers and their markets.

A firm’s vision and mission must provide the guidance that enables the firm to achieve the

desired strategic outcomes—strategic competitiveness and above-average returns—illustrated

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in Figure 1.1 that enable the firm to satisfy the demands of those parties having an interest in

the firm’s success: organizational stakeholders.

Earning above-average returns often is not mentioned in mission statements. The reasons for

this are that all firms want to earn above-average returns and that desired financial outcomes

result from properly serving certain customers while trying to achieve the firm’s intended future. In fact, research has shown that having an effectively formed vision and mission has a

positive effect on performance (growth in sales, profits, employment, and net worth).

6 Define stakeholders and describe their ability to influence organizations.

STAKEHOLDERS

Stakeholders are the individuals and groups who can affect and are affected by the strategic

outcomes achieved and who have enforceable claims on a firm’s performance.

Classification of Stakeholders

The stakeholder concept reflects that individuals and groups have a “stake” in the strategic

outcomes of the firm because they can be either positively or negatively affected by those

outcomes and because achieving the strategic outcomes may be dependent on the support or

active participation of certain stakeholder groups.

FIGURE 1.4

The Three Stakeholder Groups

Figure 1.4 provides a definition of a stakeholder and illustrates the three general

classifications and members of each stakeholder group:

 Capital market stakeholders  Product market stakeholders  Organizational stakeholders

Note: Students can use Figure 1.4 while you discuss the challenges of meeting conflicting

stakeholder expectations.

Stakeholder Groups, Membership and Primary Expectation or Demand

Stakeholder group Membership Primary expectation/demand

Capital market Shareholders Wealth enhancement

Lenders Wealth preservation

Product market Customers Product reliability at lowest possible price

Suppliers Receive highest sustainable prices

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Host communities Long-term employment, tax revenues,

minimum use of public support services

Unions Ideal working conditions and job security for

membership

Organizational Employees Secure, dynamic, stimulating, and rewarding

work environment

If the firm is strategically competitive and earns above-average returns, it can afford to

simultaneously satisfy all stakeholders. When earning average or below-average returns,

tradeoffs must be made. At the level of average returns, firms must at least minimally satisfy

all stakeholders. When returns are below average, some stakeholders can be minimally

satisfied, while others may be dissatisfied.

For example, reducing the level of research and development expenditures (to increase short-

term profits) enables the firm to pay out the additional short-term profits to shareholders as

dividends. However, if reducing R&D expenditures results in a decline in the long-term

strategic competitiveness of the firm’s products or services, it is possible that employees will

not enjoy a secure or rewarding career environment (which violates a primary union

expectation or demand for job security for its membership). At the same time, customers may

be offered products that are less reliable at unattractive prices, relative to those offered by

firms that did not reduce R&D expenditures.

Thus, the stakeholder management process may involve a series of tradeoffs that is dependent

on the extent to which the firm is dependent on the support of each affected stakeholder and

the firm’s ability to earn above-average returns.

7 Describe the work of strategic leaders.

STRATEGIC LEADERS

Who are strategic leaders?

Although it depends on the size of the organization, all organizations have a CEO or top

manager and this individual is the primary organizational strategist in every organization.

Small organizations may have a single strategist: the CEO or owner. Large organizations may

have few or several top-level managers, executives, or a top management team. All of these

individuals are organizational strategists.

What are the responsibilities of strategic leaders?

Top managers play decisive roles in firms’ efforts to achieve their desired strategic outcomes. As organizational strategists, top managers are responsible for deciding how resources will be

developed or acquired, at what cost, and how they will be used or allocated throughout the

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organization. Strategists also must consider the risks of actions under consideration, along

with the firm’s vision and managers’ strategic orientations.

Organizational strategists also are responsible for determining how the organization does

business. This responsibility is reflected in the organizational culture, which refers to the

complex set of ideologies, symbols, and core values shared throughout the firm and that

influences the way it conducts business. The organization’s culture is the social energy that drives—or fails to drive—the organization.

The Work of Effective Strategic Leaders

Though it seems simplistic, performing their role effectively requires strategists to work hard,

perform thorough analyses of available information, be brutally honest, desire high

performance, exercise common sense, think clearly, and ask questions and listen. In addition,

strategic leaders must be able to “think seriously and deeply … about the purposes of the organizations they head or functions they perform, about the strategies, tactics, technologies,

systems, and people necessary to attain these purposes and about the important questions that

always need to be asked.” Additionally, effective strategic leaders work to set an ethical tone in their firms.

Strategists work long hours and face ambiguous decision situations, but they also have

opportunities to dream and act in concert with a compelling vision that motivates others in

creating competitive advantage.

Predicting Outcomes of Strategic Decisions: Profit Pools

Top-level managers try to predict the outcomes of their strategic decisions before they are

implemented, but this is sometimes very difficult to do. Those firms that do a better job of

anticipating the outcomes of strategic moves will obviously be in a better position to succeed.

One way to do this is by mapping out the profit pools of an industry. Profit pools are the total

profits earned in an industry at all points along the value chain. Four steps are involved:

1. Define the pool’s boundaries 2. Estimate the pool’s overall size 3. Estimate the size of the value-chain activity in the pool

4. Reconcile the calculations

8 Explain the strategic management process.

THE STRATEGIC MANAGEMENT PROCESS

Chapters 2 and 3 provide more detail regarding the strategic inputs to the strategic

management process: analysis of the firm’s external and internal environments that must be

performed so that sufficient knowledge is developed regarding external opportunities and

internal capabilities. This enables the development of the firm’s vision and mission.

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Chapters 4 through 9 discuss the strategy formulation stage of the process. Topics covered

include:

 Deciding on business-level strategy, or how to compete in a given business (Chapter 4)  Understanding competitive dynamics, in that strategies are not formulated and

implemented in isolation but require understanding and responding to competitors’ actions

(Chapter 5)

 Setting corporate-level strategy, or deciding in which industries or businesses the firm will compete, how resources will be allocated, and how the different business units will be

managed (Chapter 6)

 The acquisition of business units and the restructuring of the firm’s portfolio of businesses (Chapter 7)

 Selecting appropriate international strategies that are consistent with the firm’s resources, capabilities and core competencies, and external opportunities (Chapter 8)

 Developing cooperative strategies with other firms to gain competitive advantage (Chapter 9)

The final section of the text, Chapters 10–13, examines actions necessary to effectively implement strategies. Effective implementation has a significant impact on firm

performance. Topics covered include:

 Methods for governing to ensure satisfaction of stakeholder demands and attainment of strategic outcomes (Chapter 10)

 Structures that are used and actions taken to control a firm’s operations (Chapter 11)  Patterns of strategic leadership that are most appropriate given the competitive

environment (Chapter 12)

 Linkages among corporate entrepreneurship, innovation, and strategic competitiveness (Chapter 13)