New Venture Strategies

PIRNAY Fabrice NVS 2002-2003 1

New Venture Strategies

PIRNAY Fabrice2002 - 2003

Session # 4 - 7

Industry structure and strategy


Le « menu du jour »

1. What is an industry ?

2. Drawing the structure of a given industry


1. What is an industry ?

1.1. Industry Boundaries1.2. Industry Life Cycle


1.1. Industry Boundaries


What is an industry? Collection of firms whose products (or

services) are perfect or near perfect substitutesSimilarity of products/services is key

Importance of industry boundaries Helps managers understand arena of

competitionEnables identification of competitorsHelps managers identify key success factorsProvides basis to evaluate firm goals



Problems with industry definition Industries evolve

Structure and firms change over time At what level of aggregation?

For example, beer vs. craft beer segment Industries emerge from industries

For example, electronics industry of 60’s is now multiple industries -- TV, VCR, computers

Domestic versus global in scope



Question : What industry is BMW in ?

world auto industry ? European auto industry ? world luxury car industry ? world sports car industry ?



An industry is a group of companies offering products or services that are close substitutes for each other

Key criterion: SUBSTITUTABILITY

On the demand side: are buyers willing to substitute between types of cars (across countries) ?

On the supply side: are manufacturers able to switch production between types of cars (across countries) ?

Drawing Industry Boundaries: Identifying the Relevant Market



ConcentrationConcentrationConcentrationConcentration

Entry and ExitEntry and ExitBarriersBarriers

Entry and ExitEntry and ExitBarriersBarriers

ProductProductDifferentiationDifferentiation

ProductProductDifferentiationDifferentiation

InformationInformationInformationInformation

Perfect Perfect CompetitionCompetition

Perfect Perfect CompetitionCompetition OligopolyOligopolyOligopolyOligopoly DuopolyDuopolyDuopolyDuopoly MonopolyMonopolyMonopolyMonopoly

Many firmsMany firmsMany firmsMany firms A few firmsA few firmsA few firmsA few firms Two firmsTwo firmsTwo firmsTwo firms One firmOne firmOne firmOne firm

No barriersNo barriersNo barriersNo barriers Significant barriersSignificant barriersSignificant barriersSignificant barriers High barriersHigh barriersHigh barriersHigh barriers

HomogeneousHomogeneousProductProduct

HomogeneousHomogeneousProductProduct Potential for product differentiationPotential for product differentiationPotential for product differentiationPotential for product differentiation

PerfectPerfectInformation flowInformation flow

PerfectPerfectInformation flowInformation flow Imperfect availability of informationImperfect availability of informationImperfect availability of informationImperfect availability of information

The Spectrum of Industry Structures


The Spectrum of Industry Structures

FragmentedFragmentedMany firms,Many firms,no dominantno dominant

firmfirm

Few firms,Few firms,shared dominanceshared dominance

(oligopoly)(oligopoly)

Consolidated Consolidated One firm or oneOne firm or onedominant firmdominant firm(monopoly)(monopoly)


1.2. Industry Life Cycle


Four Major Stages :

I. Emergence II. GrowthIII. Maturity IV. Decline


PIRNAY Fabrice NVS 2002-2003 13Time

Dem

and

•Growth slowGrowth slow•buyers unsurebuyers unsure•high priceshigh prices•barriers aboutbarriers about•knowledge, knowledge, standard standard setting setting

•Demand Demand takes offtakes off•prices fallprices fall•barriers to barriers to entry lowentry low•rivalry low rivalry low

•Growth slowsGrowth slows•rivalry increasesrivalry increases•excess capacityexcess capacity•price dropsprice drops•firms exitfirms exit

•No new demandNo new demand•barriers to entry barriers to entry highhigh•rivalry increasesrivalry increases•prices downprices down•cost cutting cost cutting •industry industry consolidationconsolidation•usually oligopoliesusually oligopolies

•Demand fallsDemand falls•rivalry increasesrivalry increases•price cutsprice cuts•exit barriers are keyexit barriers are key

1.2. Stages of the Industry Life Cycle

GrowthGrowth

EmbryonicEmbryonic

MaturityMaturity

ShakeoutShakeout DeclineDecline


I. Emergence :

New product or concept How to enter and refrain subsequent entry?

Consequence :

Fixing the price level Convince or educate prospective customers Determine the segment to enter Generate barriers to entry (price, segment, preemption

actions and investments,…)



II. Growth :

The rate of growth is increasing The analysis of diffusion is critical Entry starts to occur

Consequence :

Build capacity Innovate entry option Create new segment Develop partnerships and strategic alliances « Take the money and run »



III. Maturity :

Rate of growth is declining Development of a replacement market Increasing market segmentation

Consequences :

Effort for differentiation Develop market niches Reduce costs Manage exit



IV. Decline :

Big variations across segments possible

Consequence :

Manage the withdraw




Limitations of Life Cycle

it is just a generalization tends to focus on sales, market share, and

investment in the industry Life cycle model can help to anticipate

industry change, but it is dangerous to assume any pre-determined pattern of industry development



2. The structure of a given industry


How to describe industry structure? Industry size / growth Industry life cycle Industry concentration (Is the industry dominated by a few

players?) The industry structure is a product of and

defines the rules of competition Industry structures constantly change Transformation can just as easily undermine

industry attractiveness as enhance it Opportunities and threats arise from changes in

industry structure



2.1. The B.C.G. Matrix 2

2.2. The Five Forces Model (M. PORTER)

2.3. The Strategic Groups




Number of Approaches to

Achieve Advantage

Size of the Advantage

Many

Small

Fragmented

FewStalemate

Large

Specialization

Volume


Number of Approaches to Achieve Advantage

Size of the Advantage

Many

Small

Few

Large

Fragmented

Stalemate

Specialization

Volume

ROI

Share

ROI

Share

ROI

Share

ROI

Share




The “Five Forces” :

I. Threat of New EntrantsII. Intensity of Competitive RivalryIII. Bargaining Power of SuppliersIV. Bargaining Power of BuyersV. Availability of Substitute Products

2.2. The “Five Forces” Model (PORTER)


AVAILABILITY OF SUBSTITUTE PRODUCTS

BARGAINING POWER OF BUYERS

THREAT OF NEW ENTRANTS

BARGAINING POWEROF SUPPLIERS

RIVALRY AMONGCOMPETING SELLERS

Competitive forces arising from

the jockeying for better marketposition and a competitive

advantage.

The Model :

2.2. The “Five Forces” Model (PORTER)



BARGAININGPOWER OF BUYERS




Competitive forces arising from

the jockeying for better marketposition and a competitive

advantage.

I. Threat of New Entrants


New Entrants... Bring more capacity to industry Can 'shake up' industry

I. Threat of New Entrants


Entry Barriers Entry barriers stem from...

Economies of scaleProduct differentiationCapital requirementsSwitching costsAccess to distribution channels

Cost advantages not related to scaleProprietary technologyAccess to raw materialsFavorable locationsGovernment subsidies

I. Threat of Entrants Depends Upon …


Entry Barriers (Cont.) Government policy

Regulation restricting capacity, playersStandards; safety, anti-pollutionTesting; delays

Expected Retaliation of Industry Incumbents

I. Threat of Entrants Depends Upon …







Competitive forces arising fromthe jockeying for better market

position and a competitiveadvantage.

II. Intensity of Competitive Rivalry


The Intensity of Competitive Rivalry Is Greatest When... There are numerous, or equally balanced

competitors Industry growth is slow Incumbents have high fixed costs Buyers have minimal switching costs Capacity is augmented in large increments



The Intensity of Competitive Rivalry Is Greatest When... (Cont.) Competitors are diverse

Family owned businessesForeign owned competitors

Competitors have high strategic stake in industry

Industry has high exit barriersSpecialized assets---low liquidation valueFixed costs of exit---unions, suppliers, warrantiesEmotional barriersGovernment restrictions



Entry Barrier

s

Exit Barriers

High

Low

HighLow

Low, Stable

Returns

Low, Stable

Returns

High, Stable

Returns

Low, Stable

Returns

High, Stable

Returns

Low, Risky

Returns

High, Risky

Returns

Low, Stable

Returns

High, Stable

Returns

Low, Risky

Returns

High, Risky Returns

Low, Stable Returns

High, Stable

Returns

Low, Risky Returns


Effects of Entry Barriers and Exit Barriers on Industry Profits


Four firm Concentration ratio (CR4) - Add the market shares held by the 4 largest companies in the industry (= % of total industry sales accounted by the 4 largest firms)- Minimum theoretically near 0- Maximum = 100% (or 1.00)

Logging = 18%Cigarettes = 85%



Herfindahl Index (HI) - a measure of the balance in an industry

HI = 10,000 * (The Sum of (the square of each firms market share))

Example: 3 firms with market shares of 0.50, 0.25, 0.25HI = 10,000 ((0.50)^2+(0.25)^2+(0.25)^2) =

3750

= 0 Perfectly Competitive = 10,000 Monopoly > 1,800 Industries with reduced rivalry










III. Bargaining Power of Suppliers


Suppliers Affect Industry By... Raising prices Reducing quality



Suppliers Are Most Powerful When... Supplier industry is concentrated, or

dominated by a few large firms Buying industry is fragmented Substitutes are not available The industry is not an important customer of

suppliers The suppliers' product is an important input

to the buyer's business



Suppliers Are Most Powerful When... (Cont.) The supplier can vertically integrate forward Suppliers are unified

Trade associationsCartelsTrade unions










IV. Bargaining Power of Buyers


Buyers Affect Industry By... Forcing prices down Bargaining for higher quality Bargaining for more favorable terms Playing competitors off against each other



Buying Groups Are Most Powerful Under the Following Circumstances... Buyers are concentrated and/or large

compared to industry Industry is fragmented The product purchased from industry is

undifferentiated Buyers face few switching costs Buyers earn low profits Buyers can integrate backwards Buyers have full information










V. Availability of Substitute Products


Firms Are Not Only Competing Against Firms in Their Own Industry, but Also Firms in Industries Producing Substitute Products. Substitutes limit profits in normal times Substitutes reduce bonanza in boom times May be countered by industry collectives



Forms of substitution: Product-for-product Substitution of need Generic substitution Doing without



Rivalry (Business Professors) Low rivalry due to:1. Strong growth of demand2. Relatively few rivals3. Significant differentiation4. Low exit barriers

Potential Entrants(Future Business Professors)

1. High entry barriers2. Low return on investment

Substitutes (Experience and non-university education)1. Excess demand for professors’ services2. Price-performance ratio difficult to measure

Buyers (Students and Executives)1. High demand2. Relatively many buyers3. Limited substitutes at present4. Some backward integration

Suppliers(Students and Executives)

1. Suppliers are the buyers2. Low differentiation

Lowbargaining

powerof suppliers

Lowbargainin

gpower

of buyers

Low threatof entry

Moderate threatfrom substitutes

The Case of Business - Research Industry


It makes it possible to diagnose the competitive forces and characterize the position of a company.

To a large extent, the forces influences the rules of the game of the competitors and the strategies which are potentially available.

To an extent, it determines the profit potential of the industry.

The implications of the five forces model


Does not foretell the future, nor does it eliminate uncertainty for any organization.

Does not guarantee organizational effectiveness.

Is static and ignore innovation Is dynamic only to a limited extent, e.g. the industry

conditions take on punctuated equilibrium. Can it be applied to complex business landscape and/or

hypercompetitive business environment?

The limitations of the five forces model


The focus is on industry rather than individual companies Innovation creates change in industry structures, altering

the competitive environment. Industry structure cannot fully explain the performance

differences between industry competitors. Academic studies suggest that there can be enormous

variance in the profit rates of individual companies within an industry, with industry effects accounting for only 10 to 20 percent of the variance in company profit rates.

Although this does not mean that the five forces are irrelevant, it does indicate that their usefulness is limited. A company will not be profitable just because it is based in an attractive industry; much more is required.

The limitations of the five forces model


2.3. The Strategic Groups

a. The concept of Strategic Groups

b. Strategic Groups Mapping : Guidelines

c. Some Examples

d. Usefulness of Strategic Groups

e. Implications of Strategic Groups


Within an industry, a competitor grouping using similar strategies that differ from other industry groups.

=> a strategic group is a set of firms within an industry pursuing similar strategies

Requires answering two questions:

- What industry (or business) are we in?

- What are the dimensions which are relevant to the firms’ performance within the industry?” (“what is important to the customer?”)

a. The concept of Strategic Groups


STEP 1: Identify the competitive characteristics that differentiate firms in the industry :

• price/quality (high, medium, low)

• geographic coverage (local, regional, national, global)

• degree of vertical integration (none, partial, full)

• product line breath (wide, narrow)

• degree of service offered (limited, full service)

STEP 2: Plot firms on a two-variable map using pairs of these differentiating characteristics



STEP 3: Assign firms that fall in about the same strategy space to same strategic group

STEP 4: (if possible) Draw circles around each group, making circles proportional to size of group’s respective share of total industry sales



- Variables selected as axes should not be highly correlated

- Variables chosen as axes should expose big differences in how rivals compete

- Variables do not have to be either quantitative or continuous

- Drawing sizes of circles proportional to combined sales of firms in each strategic group allows map to reflect relative sizes of each strategic group

- If more than two good competitive variables can be used, several maps can be drawn



c. Some Examples

Strategic Groups in the U.S. Strategic Groups in the U.S. Pharmaceutical IndustryPharmaceutical Industry

High

HighLow

Low

Pri

ces

Ch

arg

edP

rice

s C

har

ged

R&D SpendingR&D Spending

Merck Pfizer

Eli Lilly

Proprietary Proprietary GroupGroup

Generic Generic GroupGroup

Marion Labs Carter Wallace

ICN

Strategic Groups in the U.S. Airline Strategic Groups in the U.S. Airline Industry (1996)Industry (1996)

High

HighLow

Low

Qu

alit

yQ

ual

ity

Cost Cost

Southwest

NorthwestTWA

USAir

AmericanUnitedDelta

Am. WestContinental

Strategic Groups in the Strategic Groups in the Video Game Industry

Typ

es o

f V

ideo

Gam

e S

up

plie

rs/D

istr

ibu

tio

n C

han

nel

s

Overall Cost to Players of Video Games

Low(Coin-operated

equipment)

Medium (Video players

cost $100-$300)

High (Use PC)

Video arcades,Coin operated

machines

HomePCs

Video gameconsoles

OnlineVideo games

sites

Sony, Sega, Nintendo, several

others

Arcade operators

Publishers of games on CD-ROMs

MSN Gaming Zone, Pogo.com,

America Online, HEAT, Engage, Oceanline, TEN


- Preserve info characterizing individual competitors that may be lost in studies using averaged and aggregated data;

- Allow for the investigation of multiple competitors concurrently;

- Allow assessment of the effectiveness of competitors’ strategies over a wider range of variation than a single organization’s experience affords;

- Provide a means of summarizing info to bring key dimensions of strategy in high relief; and

- Capture the intuitive notion that “within-group” rivalry and “between-group” rivalry differ.

d. Usefulness of Strategic Groups


- Mobility barriers inhibit the movement of competitors from one strategic group to another

=> the closest industry competitors are those in the group

- The various industry groups are differentially and competitively advantaged and positioned

=> competitive analysis varies across strategic groups

- Can encounter a semantic problem in defining an industry versus a group

e. Implications of strategic groups

Documents

New Venture Strategies