Managers' Mental Models Industry environments

1. Industry Analysis Decisions about BusinessDefinition Managers' Mental Models Industry environments Decisionsabout Performance Business Strategy Market Position, + How to compete and + Appropriate size/diversity, Resources, and Competitive how businesses are related, Decisionsabout Capabilities how diversification should Advantage CorporateStrategy be managed andDiversification + How to organize Decisions about Organizational Structure

2. Salient Issues Regarding Industry • All companies face competition. • For resources, customers, sales revenues, and profits. • All companies face uncertain industry environments. • Managers must position the organizations strategically in order to compete successfully. • This is what we call business definition. • Requires that managers understand the dynamics of their firms’ markets before formulating strategies.

3. Industry Life Cycles • Rapidly growing markets (emerging industries) tend to be less competitive and often attract new entrants. • Usually provide sufficient room in competitive space for making some mistakes. • Mature, concentrated markets provide firms with very little breathing room. • Mistakes by one firm can significantly impact entire industry. • One firm’s price reductions can set off industry-wide price war.

4. Firm Performance & Industry • performance of all firms in an industry will explain about 20% of the variation in the performance of any single firm in that industry. How Much Does Industry Matter? One cannot generalize that the “industry is all that matters.”

5. Average Return on Assets of Different Industries

6. Average Return on Assets in the Automobile Industry: 1993 - 1997

7. High- and Low-Performing Firms in the Steel Industry

8. High- and Low-Performing Firms in the Pharmaceuticals Industry

9. The Five Forces Model • Industry structure will impact the competitive behavior • Firms’ conduct will influence the average performance of firms in that industry • As intensity of forces increases, the industry environment becomes more hostile and overall industry profitability will decline.

10. Five Forces Model Barriers to Entry Economies of Scale Experience effects Brand Identification Switching Costs Technology Capital Number of Firms Industry Growth Rate Excess Capacity Number of Important Buyers Importance to Buyers Industry Competitors Intensity of Rivalry Number of Important Suppliers Importance of components supplies Availability of close Substitutes Value price ratio

11. Steel:A Five Force Conspiracy • Consistent low industry performance average. • All but one of the five forces are intense. • Remember that as the intensity of any of the forces becomes higher, the industry becomes less attractive and industry performance tends to decline. • Threat of Entry • Threat is very real. Initial investment required is very large, but several Minimills have entered industry in last 25 years.

12. Threat of Substitutes • Significant factor in this industry. • Aluminum • Plastics • Composite materials • Power of Steel Buyers • Also significant. • Small number of companies account for very large proportion of steel purchases. Normal threat is to take their business elsewhere.

13. Rivalry • Very intense. • Key reason is the significant overcapacity which still exists today despite the closing of many mills over the last 20 years. • Mills try to keep running at full capacity in order to spread their fixed costs over a large volume. • Price of steel today is about the same as 20 years ago

14. Pharmaceuticals:Best of all Possible Industry Worlds? • Marked contrast to steel industry. • Suppliers exercise little power because most of raw materials are commodities that can be obtained from a large number of suppliers. • Significant barriers to entry reduce the threat of new entrants. • R&D costs and personnel. • Operating finances for many years while new drugs are developed and approved by FDA. • Must build large professional sales force.

15. Few true substitutes exist. • Very small market (in relative terms) of natural medicines. • Healthy living styles have not been adopted by majority of U.S. population. • Buyers exercise very little control. • Sick patients typically do not argue with drug company over price of product. • Normally, insurance company pays the bill.

16. Rivalry. • Industry enjoys an almost “friendly” competition. • Patent protection for 17 years. • Summary • Low intensity of all five forces helps to explain the high performance of firms in this industry. • New HMO realities may change that situation. Many patents due to expire soon.

17. Two options if firms are in unattractive industries: • Diversify their firms away from or exit completely the industry. • Firms often lack sufficient resources to do this. • Diversification can be risky for firms with little diversification experience. • Attempt to minimize the impact of any of the forces that are acting to make the industry unattractive. • Shield or protect their companies from the power of the forces. Certain action may lead to allegations of collusion or other unfair practices (Microsoft vs. Justice Department).

18. Evolution of Computer Industry was inconsistent with Porter’s Five Force Model. • Incumbent firms not only did not erect sufficient barriers to new entrants, but the entrenched incumbents experienced declines in profitability. • New frameworks and models needed to explain the evolution of industries and better understanding of industry environments.

19. Dynamic Nature of Industry Environments • Personal Computers • Xerox • Beetle • Daimler-Chrysler

20. Dynamic Model of Industry Analysis • Any industry may be analyzed along three dimensions, but analyst must identify relevant labels. • Customers (the “who” dimension) • Age • Disposal income • Value • Lifestyle • Products and Services (the “what” dimension) • Size • Availability • Accessories • Cost • Technologies (the “how” dimension) • State-of-the-Art? • Effectiveness

21. Competing In An Era of Dynamism • Managers must actively anticipate the future. • Innovation is more important than imitation. • The advantages of thinking like an outsider. • Beware of success -- might lead to complacency