Strategy Levels (Encyclopedia of Management)
Although alignment of strategic initiatives is a corporate-wide effort, considering strategy in terms of levels is a convenient way to distinguish among the various responsibilities involved in strategy formulation and implementation. A convenient way to classify levels of strategy is to view corporate-level strategy as responsible for market definition, business-level strategy as responsible for market navigation, and functional-level strategy as the foundation that supports both of these (see Table 1).
CORPORATE-LEVEL STRATEGYCorporate-level strategies address the entire strategic scope of the enterprise. This is the "big picture" view of the organization and includes deciding in which product or service markets to compete and in which geographic regions to operate. For multi-business firms, the resource allocation processow cash, staffing, equipment and other resources are distributeds typically established at the corporate level. In addition, because market definition is the domain of corporate-level strategists, the responsibility for diversification, or the addition of new products or services to the existing product/service line-up, also falls within the realm of corporate-level strategy. Similarly, whether to compete directly with other firms or to selectively establish cooperative relationshipstrategic alliancesalls within the purview corporate-level strategy, while requiring ongoing input from
|Level of Strategy||Definition||Example|
|Corporate strategy||Market definition||Diversification into new product or geographic markets|
|Business strategy||Market navigation||Attempts to secure competitive advantage in existing product or geographic markets|
|Functional strategy||Support of corporate strategy and business strategy||Information systems, human resource practices, and production processes that facilitate achievement of corporate and business strategy|
business-level managers. Critical questions answered by corporate-level strategists thus include:
- What should be the scope of operations; i.e.; what businesses should the firm be in?
- How should the firm allocate its resources among existing businesses?
- What level of diversification should the firm pursue; i.e., which businesses represent the company's future? Are there additional businesses the firm should enter or are there businesses that should be targeted for termination or divestment?
- How diversified should the corporation's business be? Should we pursue related diversification; i.e., similar products and service markets, or is unrelated diversification; i.e., dissimilar product and service markets, a more suitable approach given current and projected industry conditions? If we pursue related diversification, how will the firm leverage potential cross-business synergies? In other words, how will adding new product or service businesses benefit the existing product/service line-up?
- How should the firm be structured? Where should the boundaries of the firm be drawn and how will these boundaries affect relationships across businesses, with suppliers, customers and other constituents? Do the organizational components such as research and development, finance, marketing, customer service, etc. fit together? Are the responsibilities or each business unit clearly identified and is accountability established?
- Should the firm enter into strategic alliancesooperative, mutually-beneficial relationships with other firms? If so, for what reasons? If not, what impact might this have on future profitability?
As the previous questions illustrate, corporate strategies represent the long-term direction for the organization. Issues addressed as part of corporate strategy include those concerning diversification, acquisition, divestment, strategic alliances, and formulation of new business ventures. Corporate strategies deal with plans for the entire organization and change as industry and specific market conditions warrant.
Top management has primary decision making responsibility in developing corporate strategies and these managers are directly responsible to shareholders. The role of the board of directors is to ensure that top managers actually represent these shareholder interests. With information from the corporation's multiple businesses and a view of the entire scope of operations and markets, corporate-level strategists have the most advantageous perspective for assessing organization-wide competitive strengths and weaknesses, although as a subsequent section notes, corporate strategists are paralyzed without accurate and up-to-date information from managers at the business-level.
CORPORATE PORTFOLIO ANALYSIS
One way to think of corporate-level strategy is to compare it to an individual managing a portfolio of investments. Just as the individual investor must evaluate each individual investment in the portfolio to determine whether or not the investment is currently performing to expectations and what the future prospects are for the investment, managers must make similar decisions about the current and future performances of various businesses constituting the firm's portfolio. The Boston Consulting Group (BCG) matrix is a relatively simple technique for assessing the performance of various segments of the business.
The BCG matrix classifies business-unit performance on the basis of the unit's relative market share and the rate of market growth as shown in Figure 1.
If the correct decision is made and the product selected achieves a high market share, it becomes a BCG matrix star. Stars have high market share in high-growth markets. Stars generate large cash flows for the business, but also require large infusions of money to sustain their growth. Stars are often the targets of large expenditures for advertising and research and development to improve the product and to enable it to establish a dominant position in the industry.
Cash cows are business units that have high market share in a low-growth market. These are often products in the maturity stage of the product life cycle. They are usually well-established products with wide consumer acceptance, so sales revenues are usually high. The strategy for such products is to invest little money into maintaining the product and divert the large profits generated into products with more long-term earnings potential, i.e., question marks and stars.
Dogs are businesses with low market share in low-growth markets. These are often cash cows that have lost their market share or question marks the company has elected not to develop. The recommended strategy for these businesses is to dispose of them for whatever revenue they will generate and reinvest the money in more attractive businesses (question marks or stars).
Despite its simplicity, the BCG matrix suffers from limited variables on which to base resource allocation decisions among the business making up the corporate portfolio. Notice that the only two variables composing the matrix are relative market share and the rate of market growth. Now consider how many other factors contribute to business success or failure. Management talent, employee commitment, industry forces such as buyer and supplier power and the introduction of strategically-equivalent substitute products or services, changes in consumer preferences, and a host of others determine ultimate business viability. The BCG matrix is best used, then, as a beginning point, but certainly not as the final determination for resource allocation decisions as it was originally intended. Consider, for instance, Apple Computer. With a market share for its Macintosh-based computers below ten percent in a market notoriously saturated with a number of low-cost competitors and growth rates well-below that of other technology pursuits such as biotechnology and medical device products, the BCG matrix would suggest Apple divest its computer business and focus instead on the rapidly growing iPod business (its music download business). Clearly, though, there are both technological and market synergies between Apple's Macintosh computers and its fast-growing iPod business. Divesting the computer business would likely be tantamount to destroying the iPod business.
A more stringent approach, but still one with weaknesses, is a competitive assessment. A competitive assessment is a technique for ranking an organization relative to its peers in the industry. The advantage of a competitive assessment over the BCG matrix for corporate-level strategy is that the competitive assessment includes critical success factors, or factors that are crucial for an organizational to prevail when all organizational members are competing for the same customers. A six-step process that allows corporate strategist to define appropriate variables, rather than being locked into the market share and market growth variables of the BCG matrix, is used to develop a table that shows a businesses ranking relative to the critical success factors that managers identify as the key factors influencing failure or success. These steps include:
- Identifying key success factors. This step allows managers to select the most appropriate variables for its situation. There is no limit to the number of variables managers may select; the idea, however, is to use those that are key in determining competitive strength.
- Weighing the importance of key success factors. Weighting can be on a scale of 1 to 5, 1 to 7, or 1 to 10, or whatever scale managers believe is appropriate. The main thing is to maintain consistency across organizations. This step brings an element of realism to the analysis by recognizing that not all critical success factors are equally important. Depending on industry conditions, successful advertising campaigns may, for example, be weighted more heavily than after-sale product support.
- Identifying main industry rivals. This step helps managers focus on one of the most common external threats; competitors who want the organization's market share.
- Managers rating their organization against competitors.
- Multiplying the weighted importance by the key success factor rating.
- Adding the values. The sum of the values for a manager's organization versus competitors gives a rough idea if the manager's firm is ahead or behind the competition on weighted key success factors that are critical for market success.
A competitive strength assessment is superior to a BCG matrix because it adds more variables to the mix. In addition, these variables are weighted in importance in contrast to the BCG matrix's equal weighting of market share and market growth. Regardless of these advantages, competitive strength assessments are still limited by the type of data they provide. When the values are summed in step six, each organization has a number assigned to it. This number is compared against other firms to determine which is competitively the strongest. One weakness is that these data are ordinal: they can be ranked, but the differences among them are not meaningful. A firm with a score of four is not twice as good as one with a score of two, but it is better. The degree of "betterness," however, is not known.
CORPORATE GRAND STRATEGIES
As the previous discussion implies, corporate-level strategists have a tremendous amount of both latitude and responsibility. The myriad decisions required of these managers can be overwhelming considering the potential consequences of incorrect decisions. One way to deal with this complexity is through categorization; one categorization scheme is to classify corporate-level strategy decisions into three different types, or grand strategies. These grand strategies involve efforts to expand business operations (growth strategies), decrease the scope of business operations (retrenchment strategies), or maintain the status quo (stability strategies).
Growth strategies are designed to expand an organization's performance, usually as measured by sales, profits, product mix, market coverage, market share, or other accounting and market-based variables. Typical growth strategies involve one or more of the following:
- With a concentration strategy the firm attempts to achieve greater market penetration by becoming highly efficient at servicing its market with a limited product line (e.g., McDonalds in fast foods).
- By using a vertical integration strategy, the firm attempts to expand the scope of its current operations by undertaking business activities formerly performed by one of its suppliers (backward integration) or by undertaking business activities performed by a business in its channel of distribution (forward integration).
- A diversification strategy entails moving into different markets or adding different products to its mix. If the products or markets are related to existing product or service offerings, the strategy is called concentric diversification. If expansion is into products or services unrelated to the firm's existing business, the diversification is called conglomerate diversification.
When firms are satisfied with their current rate of growth and profits, they may decide to use a stability strategy. This strategy is essentially a continuation of existing strategies. Such strategies are typically found in industries having relatively stable environments. The firm is often making a comfortable income operating a business that they know, and see no need to make the psychological and financial investment that would be required to undertake a growth strategy.
Retrenchment strategies involve a reduction in the scope of a corporation's activities, which also generally necessitates a reduction in number of employees, sale of assets associated with discontinued product or service lines, possible restructuring of debt through bankruptcy proceedings, and in the most extreme cases, liquidation of the firm.
- Firms pursue a turnaround strategy by undertaking a temporary reduction in operations in an effort to make the business stronger and more viable in the future. These moves are popularly called downsizing or rightsizing. The hope is that going through a temporary belt-tightening will allow the firm to pursue a growth strategy at some future point.
- A divestment decision occurs when a firm elects to sell one or more of the businesses in its corporate portfolio. Typically, a poorly performing unit is sold to another company and the money is reinvested in another business within the portfolio that has greater potential.
- Bankruptcy involves legal protection against creditors or others allowing the firm to restructure its debt obligations or other payments, typically in a way that temporarily increases cash flow. Such restructuring allows the firm time to attempt a turnaround strategy. For example, since the airline hijackings and the subsequent tragic events of September 11, 2001, many of the airlines based in the U.S. have filed for bankruptcy to avoid liquidation as a result of stymied demand for air travel and rising fuel prices. At least one airline has asked the courts to allow it to permanently suspend payments to its employee pension plan to free up positive cash flow.
- Liquidation is the most extreme form of retrenchment. Liquidation involves the selling or closing of the entire operation. There is no future for the firm; employees are released, buildings and equipment are sold, and customers no longer have access to the product or service. This is a strategy of last resort and one that most managers work hard to avoid.
Business-level strategies are similar to corporate-strategies in that they focus on overall performance. In contrast to corporate-level strategy, however, they focus on only one rather than a portfolio of businesses. Business units represent individual entities oriented toward a particular industry, product, or market. In large multi-product or multi-industry organizations, individual business units may be combined to form strategic business units (SBUs). An SBU represents a group of related business divisions, each responsible to corporate head-quarters for its own profits and losses. Each strategic business unit will likely have its' own competitors and its own unique strategy. A common focus of business-level strategies are sometimes on a particular product or service line and business-level strategies commonly involve decisions regarding individual products within this product or service line. There are also strategies regarding relationships between products. One product may contribute to corporate-level strategy by generating a large positive cash flow for new product development, while another product uses the cash to increase sales and expand market share of existing businesses. Given this potential for business-level strategies to impact other business-level strategies, business-level managers must provide ongoing, intensive information to corporate-level managers. Without such crucial information, corporate-level managers are prevented from best managing overall organizational direction. Business-level strategies are thus primarily concerned with:
- Coordinating and integrating unit activities so they conform to organizational strategies (achieving synergy).
- Developing distinctive competencies and competitive advantage in each unit.
- Identifying product or service-market niches and developing strategies for competing in each.
- Monitoring product or service markets so that strategies conform to the needs of the markets at the current stage of evolution.
In a single-product company, corporate-level and business-level strategies are the same. For example, a furniture manufacturer producing only one line of furniture has its corporate strategy chosen by its market definition, wholesale furniture, but its business is still the same, wholesale furniture. Thus, in single-business organizations, corporate and business-level strategies overlap to the point that they should be treated as one united strategy. The product made by a unit of a diversified company would face many of the same challenges and opportunities faced by a one-product company. However, for most organizations, business-unit strategies are designed to support corporate strategies. Business-level strategies look at the product's life cycle, competitive environment, and competitive advantage much like corporate-level strategies, except the focus for business-level strategies is on the product or service, not on the corporate portfolio.
Business-level strategies thus support corporate-level strategies. Corporate-level strategies attempt to maximize the wealth of shareholders through profitability of the overall corporate portfolio, but business-level strategies are concerned with (1) matching their activities with the overall goals of corporate-level strategy while simultaneously (2) navigating the markets in which they compete in such a way that they have a financial or market edge-a competitive advantage-relative to the other businesses in their industry.
ANALYSIS OF BUSINESS-LEVEL STRATEGIES
PORTER'S GENERIC STRATEGIES.
Harvard Business School's Michael Porter developed a framework of generic strategies that can be applied to strategies for various products and services, or the individual business-level strategies within a corporate portfolio. The strategies are (1) overall cost leadership, (2) differentiation, and (3) focus on a particular market niche. The generic strategies provide direction for business units in designing incentive systems, control procedures, operations, and interactions with suppliers and buyers, and with making other product decisions.
Cost-leadership strategies require firms to develop policies aimed at becoming and remaining the lowest cost producer and/or distributor in the industry. Note here that the focus is on cost leadership, not price leadership. This may at first appear to be only a semantic difference, but consider how this fine-grained definition places emphases on controlling costs while giving firms alternatives when it comes to pricing (thus ultimately influencing total revenues). A firm with a cost advantage may price at or near competitors prices, but with a lower cost of production and sales, more of the price contributes to the firm's gross profit margin. A second alternative is to price lower than competitors and accept slimmer gross profit margins, with the goal of gaining market share and thus increasing sales volume to offset the decrease in gross margin. Such strategies concentrate on construction of efficient-scale facilities, tight cost and overhead control, avoidance of marginal customer accounts that cost more to maintain than they offer in profits, minimization of operating expenses, reduction of input costs, tight control of labor costs, and lower distribution costs. The low-cost leader gains competitive advantage by getting its costs of production or distribution lower than the costs of the other firms in its relevant market. This strategy is especially important for firms selling unbranded products viewed as commodities, such as beef or steel.
Cost leadership provides firms above-average returns even with strong competitive pressures. Lower costs allow the firm to earn profits after competitors have reduced their profit margin to zero. Low-cost production further limits pressures from customers to lower price, as the customers are unable to purchase cheaper from a competitor. Cost leadership may be attained via a number of techniques. Products can be designed to simplify manufacturing. A large market share combined with concentrating selling efforts on large customers may contribute to reduced costs. Extensive investment in state-of-the-art facilities may also lead to long run cost reductions. Companies that successfully use this strategy tend to be highly centralized in their structure. They place heavy emphasis on quantitative standards and measuring performance toward goal accomplishment.
Efficiencies that allow a firm to be the cost leader also allow it to compete effectively with both existing competitors and potential new entrants. Finally, low costs reduce the likely impact of substitutes. Substitutes are more likely to replace products of the more expensive producers first, before significantly harming sales of the cost leader unless producers of substitutes can simultaneously develop a substitute product or service at a lower cost than competitors. In many instances, the necessity to climb up the experience curve inhibits a new entrants ability to pursue this tactic.
Differentiation strategies require a firm to create something about its product that is perceived as unique within its market. Whether the features are real, or just in the mind of the customer, customers must perceive the product as having desirable features not commonly found in competing products. The customers also must be relatively price-insensitive. Adding product features means that the production or distribution costs of a differentiated product will be somewhat higher than the price of a generic, non-differentiated product. Customers must be willing to pay more than the marginal cost of adding the differentiating feature if a differentiation strategy is to succeed.
Differentiation may be attained through many features that make the product or service appear unique. Possible strategies for achieving differentiation may include warranty (Sears tools have lifetime guarantee against breakage), brand image (Coach handbags, Tommy Hilfiger sportswear), technology (Hewlett-Packard laser printers), features (Jenn-Air ranges, Whirlpool appliances), service (Makita hand tools), and dealer network (Caterpillar construction equipment), among other dimensions. Differentiation does not allow a firm to ignore costs; it makes a firm's products less susceptible to cost pressures from competitors because customers see the product as unique and are willing to pay extra to have the product with the desirable features.
Differentiation often forces a firm to accept higher costs in order to make a product or service appear unique. The uniqueness can be achieved through real product features or advertising that causes the customer to perceive that the product is unique. Whether the difference is achieved through adding more vegetables to the soup or effective advertising, costs for the differentiated product will be higher than for non-differentiated products. Thus, firms must remain sensitive to cost differences. They must carefully monitor the incremental costs of differentiating their product and make certain the difference is reflected in the price.
Focus, the third generic strategy, involves concentrating on a particular customer, product line, geographical area, channel of distribution, stage in the production process, or market niche. The underlying premise of the focus strategy is that the firm is better able to serve its limited segment than competitors serving a broader range of customers. Firms using a focus strategy simply apply a cost-leader or differentiation strategy to a segment of the larger market. Firms may thus be able to differentiate themselves based on meeting customer needs through differentiation or through low costs and competitive pricing for specialty goods.
A focus strategy is often appropriate for small, aggressive businesses that do not have the ability or resources to engage in a nation-wide marketing effort. Such a strategy may also be appropriate if the target market is too small to support a large-scale operation. Many firms start small and expand into a national organization. Wal-Mart started in small towns in the South and Midwest. As the firm gained in market knowledge and acceptance, it was able to expand throughout the South, then nationally, and now internationally. The company started with a focused cost-leader strategy in its limited market and was able to expand beyond its initial market segment.
Firms utilizing a focus strategy may also be better able to tailor advertising and promotional efforts to a particular market niche. Many automobile dealers advertise that they are the largest-volume dealer for a specific geographic area. Other dealers advertise that they have the highest customer-satisfaction scores or the most awards for their service department of any dealer within their defined market. Similarly, firms may be able to design products specifically for a customer. Customization may range from individually designing a product for a customer to allowing the customer input into the finished product. Tailor-made clothing and custom-built houses include the customer in all aspects of production from product design to final acceptance. Key decisions are made with customer input. Providing such individualized attention to customers may not be feasible for firms with an industry-wide orientation.
Functional-level strategies are concerned with coordinating the functional areas of the organization (marketing, finance, human resources, production, research and development, etc.) so that each functional area upholds and contributes to individual business-level strategies and the overall corporate-level strategy. This involves coordinating the various functions and operations needed to design, manufacturer, deliver, and support the product or service of each business within the corporate portfolio. Functional strategies are primarily concerned with:
- Efficiently utilizing specialists within the functional area.
- Integrating activities within the functional area (e.g., coordinating advertising, promotion, and marketing research in marketing; or purchasing, inventory control, and shipping in production/operations).
- Assuring that functional strategies mesh with business-level strategies and the overall corporate-level strategy.
Functional strategies are frequently concerned with appropriate timing. For example, advertising for a new product could be expected to begin sixty days prior to shipment of the first product. Production could then start thirty days before shipping begins. Raw materials, for instance, may require that orders are placed at least two weeks before production is to start. Thus, functional strategies have a shorter time orientation than either business-level or corporate-level strategies. Accountability is also easiest to establish with functional strategies because results of actions occur sooner and are more easily attributed to the function than is possible at other levels of strategy. Lower-level managers are most directly involved with the implementation of functional strategies.
Strategies for an organization may be categorized by the level of the organization addressed by the strategy. Corporate-level strategies involve top management and address issues of concern to the entire organization. Business-level strategies deal with major business units or divisions of the corporate portfolio. Business-level strategies are generally developed by upper and middle-level managers and are intended to help the organization achieve its corporate strategies. Functional strategies address problems commonly faced by lower-level managers and deal with strategies for the major organizational functions (e.g., marketing, finance, production) considered relevant for achieving the business strategies and supporting the corporate-level strategy. Market definition is thus the domain of corporate-level strategy, market navigation the domain of business-level strategy, and support of business and corporate-level strategy by individual, but integrated, functional level strategies.
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