Strategy (Encyclopedia of Small Business)
As James Brian Quinn indicated in The Strategy Process: Concepts and Contexts, "a strategy is the pattern or plan that integrates an organization's major goals, policies, and action sequences into a cohesive whole. A well-formulated strategy helps to marshal and allocate an organization's resources into a unique and viable posture based on its relative internal competencies and shortcomings, anticipated changes in the environment, and contingent moves by intelligent opponents." All types of businesses require some sort of strategy in order to be successful; otherwise their efforts and resources will be spent haphazardly and likely wasted. Although strategy formulation tends to be handled more formally in large organizations, small businesses too need to develop strategies in order to use their limited resources to compete effectively against larger firms.
Formulation of an effective business strategy requires managers to consider three main playershe company, its customers, and the competitionccording to Kenichi Ohmae in his book The Mind of the Strategist. These three players are collectively referred to as the strategic triangle. "In terms of these three key players, strategy is defined as the way in which a corporation endeavors to differentiate itself positively from its competitors, using its relative corporate strengths and weaknesses to better satisfy customer needs," Ohmae explained.
Quinn noted that an effective business strategy should include three elements: 1) a clear and decisive statement of the primary goals or objectives to be achieved; 2) an analysis of the main policies guiding or limiting the company's actions; and 3) a description of the major programs that will be used to accomplish the goals within the limits. In addition, it is important that strategies include only a few main concepts or thrusts in order to maintain their focus. They should also be related to other strategies in a hierarchical fashion, with each level supporting those above and below. Finally, strategies should attempt to build a strong yet flexible position for the company so that it may achieve its goals whatever the reaction of external forces. "Strategic decisions are those that determine the overall direction of an enterprise and its ultimate viability in light of the predictable, the unpredictable, and the unknowable changes that may occur in its most important surrounding environments," Quinn stated.
LIMITS ON STRATEGIC CHOICES
The strategic choices available to a company are not unlimited; rather, they depend upon the company's capabilities and its position in the marketplace. "At the broadest level formulating competitive strategy involves the consideration of four key factors that determine the limits of what a company can successfully accomplish," Michael E. Porter wrote in his classic book Competitive Strategy. Two of these limiting factors are internal, and the other two are external. The internal limits are the company's overall strengths and weaknesses and the personal values of its leaders. "The company's strengths and weaknesses are its profile of assets and skills relative to competitors, including financial resources, technological posture, brand identification, and so on," Porter stated. "The personal values of an organization are the motivations and needs of the key executives and other personnel who must implement the chosen strategy."
The external factors limiting the range of a company's strategic decisions are the competitive environment and societal expectations under which it operates. "Industry opportunities and threats define the competitive environment, with its attendant risks and potential rewards," Porter noted. "Societal expectations reflect the impact on the company of such things as government policy, social concerns, evolving mores, and many others. These four factors must be considered before a business can develop a realistic and implementable set of goals and policies."
Once a company has analyzed the four factors, it may then begin developing a strategy to compete under or attempt to change the situation it faces. The approach to strategy development recommended by Porter involves identifying the company's current strategy; revealing underlying assumptions about the company's position, its competitors, or industry trends affecting it; analyzing the threats and opportunities present in the external environment; determining the company's own strengths and weaknesses given the realities of its environment; proposing feasible alternatives; and choosing the one that best relates the company's situation to its environment.
The number of potential business strategies are probably as great as the number of different businesses. Each distinct organization must develop a strategy that best matches its internal capabilities and its situation with regard to the external environment. Still, many of the numerous strategies pursued by businesses can be loosely grouped under three main categoriesost leadership, differentiation, and focus. Porter termed these categories "generic strategies," and claimed that most companies use variations of them, either singly or in combination, to create a defensible position in their industry. On the other hand, companies that fail to target their efforts toward any of the generic strategies risk becoming "stuck in the middle," which leads to low profitability and a lack of competitiveness.
COST LEADERSHIP The first generic strategy, overall cost leadership, can enable a company to earn above average profits despite the presence of strong competitive pressures. But it can also be difficult to implement. In a company pursuing a low-cost strategy, every activity of the organization must be examined with respect to cost. For example, favorable access to raw materials must be arranged, products must be designed for ease of manufacturing, manufacturing facilities and equipment must continually be upgraded, and production must take advantage of economies of scale. In addition, a low-cost strategy requires a company to implement tight controls across its operations, avoid marginal customer accounts, and minimize spending on advertising and customer service. Implemented successfully in a price-sensitive market, however, a low-cost strategy can lead to strong market share and profit margins.
Of course, a low-cost strategyike any other strategylso involves risks. For example, technological changes may make the company's investments in facilities and equipment obsolete. There is also the possibility that other competitors will learn to match the cost advantages offered by the company, particularly if inflation helps narrow the gap. Finally, low-cost producers risk focusing on cost to such an extent that they are unable to anticipate necessary product or marketing changes.
DIFFERENTIATION Companies that pursue a strategy of differentiation try to create a product or service that is considered unique within their industry. They may attempt to differentiate themselves on the basis of product design or features, brand image, technology, customer service, distribution, or several of these elements. The idea behind a differentiation strategy is to attract customers with a unique offering that meets their needs better than the competition, and for which they will be willing to pay a premium price. This strategy is intended to create brand loyalty among customers and thus provide solid profit margins for the company. Although the company may not be able to achieve a high market share using a differentiation strategyecause successful differentiation requires a perception of exclusivity, and because not all customers will be willing or able to pay the higher priceshe increased profit margins should compensate. Naturally, there are risks associated with committing to a differentiation strategy. For example, competitors may be able to imitate the unique features, customers may lose interest in the unique features, or low-cost competitors may be able to undercut prices in a way that erodes brand loyalty.
FOCUS Companies undertaking a focus strategy direct their full attention toward serving a particular market, whether it is a specific customer group, product segment, or geographic region. The idea behind the focus strategy is to serve that particular market more effectively than competitors on the basis of product differentiation, low cost, or both. Since focusing on a small segment of the overall market limits the market share a company can command, it must be able to make up for the lost sales volume with increased profitability. The focus strategy, too, entails risks. For example, there is always a possibility that competitors will be able to exploit submarkets within the strategic target market, that the differences between the target market and the overall market will narrow, or that the high costs associated with serving the target market will eliminate any advantage gained through differentiation.
Each of the three generic strategies identified by Porter requires a company to accumulate a different set of skills and resources. For example, a company pursuing a low-cost strategy would likely have a much different organizational structure, incentive system, and corporate culture than one pursuing a differentiation strategy. The key to successful implementation of one of the three generic strategies is to commit to it fully, rather than take half-measures that do not distinguish the company in any way.
NEW APPROACHES TO STRATEGY DEVELOPMENT
In the past, the formulation of strategyt least in large corporationsas the domain of upper-level management. The traditional approach involved top managers coming up with a strategic direction for the company, setting it forth in an annual written strategic plan, and then disseminating the plan to various departments and employees, who were expected to contribute only within their own spheres of influence. This approach seemed to work fairly well for slow-moving companies in a stable external environment. In recent years, however, the process of developing strategy has changed dramatically in response to changes in the overall business world. "There is little question that the traditional approach to strategic planning, formulated in a different era, is often inadequate to deal with the rapid and continuous changes taking place in today's marketplace; it also fails to take into account the increased demand for autonomy in today's work force," Stephen J. Wall and Shannon Rye Wall wrote in Organizational Dynamics.
Traditional approaches to strategy development have been criticized for being too rigid, inflexible, and authoritative. Experts claim that these approaches were too concerned with analysis and quantification to be able to predict and adapt quickly to market changes. As a result, new approaches have emerged that no longer relegate strategy to top management; instead, the strategy formulation process involves all individuals in an organization, particularly those who are in direct contact with customers. "A new approach to the strategic planning process, one that involves managers at all levels, can result in a dynamic process that increases competitive advantage," Wall and Wall wrote. "Strategic planning is evolving due to the increasingly urgent need for responsiveness to market changes."
In large measure, the changes that have taken place in business strategy have come as a result of changes in the environment. As the global marketplace has become increasingly volatile and competitive, companies have had to adjust by reducing their time frames for responding to changing customer needs. In addition, the changes in business strategy have come in part because today's workers tend to want and even demand more control over their work lives. The combination of these two factors has resulted in a new value being placed on employee participation in the strategy process. "In an environment in which change is the norm, the insights of those on the front lines take on a new importance, since those close to the actionalespeople and others who deal directly with outside clientsre first to get wind of changes in customer needs," according to Wall and Wall. With this in mind, many companies are now choosing to develop strategy through the creation of multifunctional teams. Combining employees from various functional areas in this way tends to promote strategic thinking, because the groups are able to focus on broad company goals rather than on more limited functional, department, or individual goals. In addition to establishing cross-functional teams within the organization, some companies are beginning to solicit strategic input from their external customers and suppliers as well.
BENEFITS FROM THE NEW APPROACHES
Employee participation in the strategy process not only helps the company to develop a more responsive strategy, but also improves employee morale and commitment to the organization. Companies that encourage such participation are creating a more knowledgeable workforce, which is particularly important for small businesses since intellectual capital is often one of their most valuable assets.
The new, participative approaches to strategy formulation can also enable companies to improve their focus on customer needs by increasing the access of line employees to top management. In fact, hierarchies are designed to filter the information that goes to upper-level managers. But this lack of information can lead to overconfidence and myopic decision making. Similarly, the new approaches can also help companies to remain flexible and responsive to market changes. The greater amount of information that managers receive about the market enables them to adapt the company's strategic direction to take advantage of new circumstances.
Participative strategic development also may help companies to retain key employees, because employees gain satisfaction by being able to direct and see the results of their efforts. "Retaining these highly skilled and trained professionals will become increasingly important as knowledge has more and more to do with the company's ability to build and maintain a competitive advantage," Wall and Wall noted. Finally, participating in strategy formulation may enable managers to make better use of their time. This benefit is particularly helpful because time is always limited as companies try to do more with less people.
Eccles, Robert, and Nitin Nohria. Beyond the Hype: Rediscovering the Essence of Management. Harvard Business School Press, 1992.
Eisenhardt, Kathleen M. "Strategic Decisions and All That Jazz." Business Strategy Review. Autumn 1997.
Hamel, Gary, and C. K. Prahalad. Competing for the Future. Harvard Business School Press, 1994.
Markides, Constantinos C. All the Right Moves: A Guide to Crafting Breakthrough Strategy. Harvard Business School Press, 1999.
McGrath, Rita Gunther, and Ian MacMillan. The Entrepreneurial Mindset. Harvard Business School Press, 2000.
Mintzberg, Henry, and James Brian Quinn. The Strategy Process: Concepts and Contexts. Prentice-Hall, 1992.
Ohmae, Kenichi. The Mind of the Strategist: Business Planning for Competitive Advantage. Penguin, 1982.
Porter, Michael E. Competitive Strategy: Techniques for Analyzing Industries and Competitors. Free Press, 1980.
Wall, Stephen J., and Shannon Rye Wall. "The Evolution (Not the Death) of Strategy." Organizational Dynamics. Autumn 1995.
SEE ALSO: Business Planning
Strategy (Encyclopedia of Business)
Strategyhe firm's choice concerning how to deploy its resourcesas content and timing. The strategy of each business unit defines which are its preferred customers to serve and which product/technological parameters are most appropriate for satisfying this demand (content). Judgments about its competitive environment suggest whether a business unit's early implementation of actions will be more advantageous than letting competitors take pioneering riskshether a first-mover advantage exists for the firm that preempts another's product introductions, for example (timing).
Formulation of the multibusiness firm's corporate strategy assigns a mission to each of its business units that is consistent with the organization's goals; each business unit's mission defines the timing of cash flows to be generated (or a responsibility to support other business units that, in tum, generate cash). Because corporate-level strategy integrates the activities of its mix of businesses, its totality defines the firm's "personality" and risk-taking attitudes in its quest to create value for its stakeholders. Although corporate strategy has previously been focused on the timing of cash flows generated by astute investment in short-term projects, concems about competitiveness and the challenges of managing people-based sources of competitive advantage have forced managers to participate in longer-term projects, as well. Where business units once developed individual distinctive competences appropriate to the unique opportunities and threats they faced, corporate managers now nurture the development and sharing of core competencies across organizational boundaries to cope with converging industry boundaries and to leverage the benefits of resource expenditures across several marketplaces.
Strategy (from strategos, the art of the general) has its roots in traditional military tactics and logistics such as those described in Sun Tzu's Art of War. Modem business practices have appropriated some of the tenents of the ancient military codes and applied them to business transactions in order to acquire a great market share, to improve efficiency, and to increase profit margins. Access to the vast computational power of mainframe computers in the late 1960s linked corporate strategy formulation issues inextricably with those of financial analyses, especially in matters of diversification where covariance terms were calculated to assess risk preferences. Promulgation of the 1970s strategic planning practices of General Electric Company popularized the use of strategic business units (SBUs), which assign "bottom line responsibility" to the use of resources within organizational units smaller than divisions (or with customer/technological responsibilities that transcend divisional boundaries). General Electric was also an early user of objective criteria, such as the growth/share matrix, to direct strategic investments. (Demand growth rates and relative market shares were typical criteria in such frameworks; low market-share businesses facing slow demand growthogsere candidates for divestiture.) Troubled lines of business are candidates for turnarounds to improve liquidity; firms in turnarounds cut back in markets where they are overextended (retrenchment) and reduce noncontributing activities to improve their cash flows.
Strategy implementation issues have become inextricably linked with the design of effective management information systems and empowerment of organizational resources, particularly where corporate level managers seek to manage relationships among their firm's ongoing mix of business units effectively (operating synergies) as well as pick the best businesses to invest in (financial synergies). As strategic planning processes have sought to elicit support from personnel who must implement the firm's strategy, the power of strategic planners who once generated armchair analysesomplete with alternative scenarios that anticipated every contingencyas migrated to the "troops in the trenches" who must make the plan succeed. Line personnel in all aspects of operations have initiated suggestions for reengineering the process by which firms create value for their customers. Ongoing managers have voluntarily downsized their organizations to create value for shareholders, lest the managers be replaced by outsiders with the same mandate of value creation (the "market for corporate control").
Each business-level strategy matches firm's discretionary investments to existing (and future) market conditions in light of competitors' strategies for serving chosen customers in anticipation of creating value for investors (competitive strategy). Some industries have greater profitability potential than others at a particular time in a particular country. The five-forces modelhich considers whether an industry's structural traits support high profitability marginsuggests which lines of business to enter (or exit). Using the tools of microeconomic analysis, the model indicates that the most profitable industries will sustain high entry barriers, low supplier and customer bargaining power, no perfect substitute products, and little price competition. Forecasts of future industry conditions are critical to justify new (or continued) funding of business units when using the five-forces model because competition is dynamic. Business unit managers must devise entry strategies appropriate to overcome the entry barriers in operation when their firm's products are introduced, and must remain evervigilant to overcome the response of competitors' innovations.
While corporate-level managers are charged with finding the best uses for resources, managers responsible for each business unit are charged with sustaining a basis for competitive advantage in serving the most attractive customers as their markets evolve. Although cost-based strengths are fundamental to becoming a preferred vendor, the evolving requirements of sophisticated customers mean that competitive advantage is a constantly moving target and effective managers must anticipate how industry success requirements will change and make expenditures to preempt competitors from improving their relative positions vis-à-vis key customers. When industries seem attractive, cash is often reinvested to maximize market share (economies of scale). Implicit in such reinvestment policies is the expectation that postponed profits can be harvested later by surrendering market share. Because the "first to exit" liquidates more of its investment than firms that procrastinate, however, business unit managers must also assess the changing costs of overcoming exit barriers when competitive conditions sour and declining demand no longer justifies continuing investment. In volatile markets, dominant market share is no longer a virtue. Strategic flexibility is more-highly valued as environments devolve to hypercompetition.
Because corporate-level (headquarters or corporate staff) managerial activities are justified by making particular combinations of business units more valuable than if each line of business were a separate company held in a financial portfolio, corporate strategy is centrally concerned with the nature of relationships between business units. Resource allocation among a multitude of business units is also a central concern of corporate level strategy; corporate managers often proactively intervene in business level decisions by deciding in which lines of business the firm should (1) enter; (2) exit; (3) expand (or shrink) by funding the capacity of a business unit's geographic plants; (4) encourage coordination among a business unit's geographic plants (or encourage autonomy among them instead); and/or (5) encourage coordination among the resources and facilities of related (but separate) business units more overtly than if decisions to share expenses, transfer knowledge, participate in each other's value-creation chains, or other relationships were left to chance. (In a "bottom-up" strategic planning process, these same decisions might surface when corporate-level managers arbitrate between competing uses of resources when resources are rationed.) Corporate strategy accounts for the differences between the two types of strategic planning processes (top-down versus bottom-up) with regard to which business unit initiates the need for headquarters to make trade-offs among competing uses of capital. Although business-unit managers typically compete across the firm for capital allocations, processes for enhancing the firm's core competencies increasingly make human resource allocations across business units a strategic concern that is coordinated by headquarters, as well.
Core competencies arising from an organization's accumulated technical knowledge and management systems can be shared more easily when its corporate strategy encourages intrafirm interactions (economies of scope) than when each business unit throughout a firm's international system of operations goes its own way (laissez-faire). While business unit managers often champion shorter-term interests that favor the market segments they have chosen to serve, product attributes they believe will best serve their customers, and technological postures that will develop competencies that best suit their respective lines of business, corporate level managers champion "bigpicture," corporate-wide interests and legitimize internal schemes of cross-subsidization by providing budgetary relief for activities that could enhance the longer-term priorities of the firm through the funding of (1) "corporate development" divisions, (2) strategic alliances that expose the firm to desired competencies without requiring equity ownership (virtual firm arrangements), or (3) other forms of corporate venturing, including internal alliances.
Although business-unit managers are concerned with optimizing their internal value-creating chains of relationships (by forging effective competitive strategies), corporate-level managers are responsible for arranging (and monitoring) the best system of valuecreating relationships among sister business units, as well as with outsidershich may include international suppliers (and distributors), locally competent suppliers (and distributors) within each site of international operations, competitors, local governments that build and support local infrastructures, and customers, among others. Doing so requires firms to maintain strategic flexibility since strategy implementation may involve cross-licensing (or other forms of information exchange), joint ventures (or other forms of equity participation), or direct investments through acquisition.
Within flexible organizations, corporate-level strategy initiates and audits competitive advantages based on organizational attributes. In particular, effective vertical strategies require a continuous process of redesigning task responsibilities (in collaboration with suppliers and customers) to create more value-added opportunities internally while continually weeding-out activities (and customers) that do not fit the firm's choice regarding what businesses it wants to be in (vertical integration), hence what competencies it wants to develop to sustain its competitive advantage. Vertical relationships can be secured through contractual ties, strategic alliances, or equity ownership, depending upon the competitive environments where transactions must occur. Disinvestment (or the severing of vendor-customer relationships) must occur when necessary, even where both business units are owned by the same corporate parents. Thus corporate-level oversight is mandatoryspecially where sister business units are linked in such buyer-supplier relationshipso avoid perverting the firm's strategic vision.
Strategic flexibility requires organizations to gain new capabilitieshrough acquisition or internal development, depending upon the timing requirements of effective implementationefore competitors reach similar conclusions. Strategic flexibility may require firms to relocate stages of their value chain where national cost advantages in factors of production are short-lived. Where easy international flows of information make competitive imitation inevitable and timing advantages based on proprietary information are increasingly short-lived, flexible organizations need a corporate strategy that moves them from less-competitive businesses to those where opportunities to prosper are greater and success requirements are more compatible with the strengths they have developed internally.
[Kathryn Rudie Harrigan]