Business Strategy: An introduction

Lecture slides for Chapter 2

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Objectives
Objectives of this lecture is to understand how the profitability difference between two firms could be explained on the basis of difference in characteristics of their product markets and what business policies a firm could adopt to maintain its advantageous positions in its product market.
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Two approach to business strategy

Market Driven Strategy: Resource Driven Strategy: Fundamental Difference between the two
- What explains the high difference in profitability between two companies ?

Example: In 2006-7, the profitability of BHEL was 22% while that of BEML was just 12%
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Annual Report of BHEL

2005-6 2006-7 2007-8 Value of (RsCr)13675 17324 20090 Production Profit before tax 2564 3636 4430 Profit/ VOP 19% 21% 22%

Strategic HRM: Pulak Das

Annual report of BEML

2005-6 2006-7 Value of (RsCr)2181 2591 Production Profit before tax 285 316 Profit/ VOP 13% 12% 2007-8

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Business Strategy: Two options

Factor Market

Company

Product Market

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Market Driven Strategy

The main reasons for difference in profitability is due to their doing business in two different industries. Product market characteristics are the principal driver for profit.
The principal contention here is that in the long run all organizations operating in an industry will have very similar production and marketing infrastructure and they are going to earn long run profitability corresponding to that industry. This long run profitability of an industry depend on a few characteristics of the industry.
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Long run conditions of Factor and Product Markets

Factor Market

Company

Product Market

Homogeneous

Heterogeneous

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Industry profitability
Because of certain industry specific characteristics some industries are more profitable than others; Porters five forces
- Entry barrier; - Power of suppliers; Power of buyers; Scope of substitutions;

- Rivalry among existing players.

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Entry barrier
How easy is it for a new player to enter my business space? This barrier could be due to Requirement of large financial capital, Large land area; Proprietary right over mineral deposits; technology. Examples of breached entry barriers;
- Electric fan industry was a part of large scale manufacturing in 1960s and 1970s. Now, it is part of small scale business. Agricultural innovation by a farmer switching from rice cultivation to say potato and make high return to your investment. But such return is likely to be short lived. Most potato farmers in Bengal knows it too well.
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Power of suppliers
When a manufacturer buys a lot its manufacturing requirements from a single supplier it can be vulnerable to suppliers strategic moves or failures. Example: In 2006, Steal Authority of India (SAIL) went for acquiring coal mines overseas because it wanted to insulate itself from the irregular coal supply from Coal India.
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Power of buyer
When a large part of a companys output is sold to only one or a few buyers, it can be vulnerable to strategic intents of the buyers. Examples:
- NTPC sells a lot of its power outputs to State Electricity Boards (SEB). But most SEBs are poor pay masters. SEBs sickness was affecting the health of NTPC quite badly. - Burn Standard and Company Ltd, Braithewaite and Co Ltd and Jessop Construction Ltd were faithful suppliers of wagons to Indian Railway for many years. After economic liberalization, Indian Railway went for more diversified suppliers that led to sickness of those loyal wagon suppliers of 1960s and 1970s!

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Threat of substitute
How easy is it for an existing competitor to come out with a substitute product that you have just launched as a new innovation? Example: During the later part of last century Indian pharmaceutical industry had lots of medicinal formulations with very similar therapeutic values. This affected serious investment in development of drugs in India.
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Rivalry among existing players

How many players are operating in the industry and how keenly are they watching each other? High rivalry among the players will make them to go for excessive expenditure on product promotion and customer relations raising to their annual operating cost which ultimately is likely to cut into their actual profits.
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Strategic Options: Generic Strategies

Cost Leadership: When product from all manufacturers appear same to the customers, then every manufacturer will try to capture the market by selling at the lowest cost. Example: primary education, basic banking or health care service for common citizens.
- In 2006, there was craze among Indian Cement manufacturers for captive power plant because power from state grid cost Rs 3.5 to Rs 4.5 per KWH while that from captive power plant the cost is Rs 2.75 to Rs3.5 per kwh.
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Differentiation
When the product has many special characteristics, a manufacturer may try to do business with those customers who like those characteristics more than other characteristics. Example:
- Maruti, Indica and Honda City are all cars but Maruti is known for its fuel efficiency, Indica is known for its suspension and Honda City is known for its looks! And, there are different people who prefer these characteristics of a car.
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Focus
Instead of segmenting the total market based on product characteristics, this strategy is based on segmentation of the product market based on geography location, customer income, education, industry etc. A manufacturer will do business in one of the other market. Example: Newspapers in Kolkata There are English papers The Telegraph, The Statesman, the Times of India and a few others; Then there are Bengali newspapers e.g. Anandabazar Patrika, Barthaman, Satyayug then there are Hindi news papers e.g. Sanmarg. Do you think all of them give the same headline for their respective papers? Most likely not. They are different because they are catering to the news appetite of different markets.

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Key learning
Product markets are heterogeneous. Different companies choose to do their businesses in different product markets. Different product markets can be broadly classified into different industries. Profitability of an industry depend on presence of entry barrier, power of suppliers, power of buyers, threat of substitutes and rivalry among the existing players. A business organizations may choose to adopt any one of the three generic strategies viz. cost leadership, differentiation and focus.

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