All men can see these tactics whereby I conquer, but what none can see is the strategy out of which victory is evolved.

Sun Tzu

In a nutshell

Is a strategy something you have, or something that you do? Should a strategy be synonymous with the purpose of business? Or is it just a means to an end? How you connect strategy to other subject areas will depend on how you answer such big questions. Marketing and international business, for example, both rely on a strategic overlap, and any aspect of financial management with capital expenditure or long-term financial interests of the owners is strategic. In fact, what isn’t strategic, you could ask. No wonder that people love talking and writing about it. In business schools, it sometimes seems that students and faculty rarely talk of anything else.

People have had something to say about strategy for millennia, and for much longer than we have used the word in management and business. This chapter acknowledges that past but will focus, too, on current thinking in strategic decision making.

In this chapter you will:

• differentiate between the main approaches to strategy
• examine the external and internal strategic environments
• define competitive advantage
• engage with strategic planning

‘Old school’ strategy

Strategy, said Peter Drucker, is our answer to the questions ‘What is our business, what should it be, what will it be?’¹ It would be fair to say that Drucker saw strategy as the cement between the building blocks of an organisation.

Invariably on an MBA you are told three things about strategy:

1. It is a concept with roots in (ancient and modern) military campaigns and is about victory over defeat. Many people therefore see ‘winning’ in business as synonymous with strategic thinking. With this comes the idea that the purpose of strategy is to ensure the continued survival of the firm, business or organisation.
2. It ensures the long-term viability of an organisation through sustainable competitive advantage. When the individual firm is the unit of survival, strategy’s function is to find and then protect from competitors the sources of value creation. Strategy needs to control the internal and then exploit external resources of what is defined as its unique competing space.
3. It is the capstone subject, the one that binds all other topics in management under one unifying principle. It is also synonymous with a more sophisticated level of MBA thinking than the tactical.

The problem of the unique competing space

So, strategy is about winning in the long term and is the culmination of the journey in management. However, there are criticisms of this view which we also need to explore. On an MBA, strategy generally centres itself on the competitive position of the organisation in what is sometimes called its unique competing space. This begins with a search to understand why there is an organisation in the first place, followed by analysis of the boundary between purpose and environment (the external and internal bases of competitiveness).

The problem here is if we speak of an ever-changing unique competing space as if the organisation would still exist without it. The organisation implies the competing space just as much as the space implies the organisation. You couldn’t have one without the other. There are two consequences:

1. If strategy wants to be transformational, then analysis must acknowledge that the unit of survival is never a single organisation but the organisation plus its environment. No strategy will be truly transformational and sustainable otherwise.
2. If strategy equalled only the analysis, your plans would be left gathering dust on the shelves. Strategy without action is meaningless. Only when we implement do we find anything out.

Not for the first time in the book, the crucial link between strategic sense making or planning and results in the bottom line is you – the middle manager. Your role is always strategic.

The structure of strategy

It might surprise you to learn that strategy is a relative newcomer as a core component of business administration. During and after the Second World War interest grew in how an organisation could sustain itself and in particular how economies could plan to rebuild themselves, and strategy as its own subject became an explicit part of the MBA curriculum from the late 1950s onwards, mainly in the United States. Originally, it was about rational decision making based on scenario planning, and the use of quantifiable techniques. This was applied to the organisation in an era of support for management science, but also one with a new interest in the psychology of human relations, especially in Europe.

On its own a strategy is just an expression of a direction. It needs to be translated from lofty goals and objectives that then have to be implemented. The context for strategy is the same as the purpose of a business. Purpose is usually verbalised in mission statements (present-tense expressions of why the organisation exists) and vision statements (future-focused pictures of the goals, ethics, beliefs and values).

Here is how Procter and Gamble expresses it:

Our Purpose

We will provide branded products and services of superior quality and value that improve the lives of the world’s consumers, now and for generations to come. As a result, consumers will reward us with leadership sales, profit and value creation, allowing our people, our shareholders and the communities in which we live and work to prosper.²

Plenty of vision and aspiration, but there is a danger that this view of strategy can feel very top-down and remote from the experience elsewhere in the organisation. An alternative view of strategy is that it must emerge as the organisation grows, from both the top and the bottom up.

Most strategists agree that competition is a central characteristic of any free market economy. The orthodox view is that the key to a successful business is the development of a profitable (or sustainable, if not-for-profit) business model that identifies customers, analyses competitive advantage, anticipates competitor actions and looks for novelty and innovation to maintain this advantage. Michael Porter was not the first to write about it, but his book Competitive Strategy set the tone for other theorists and practitioners.³ Porter said that the components of strategic analysis are a firm’s:

• external environment: the opportunities and threats presented by competitors, markets, macroeconomics
• internal environment: the strengths and weaknesses inherent in an organisation’s resources, skills and microeconomics.

In Porter’s models these are defined and analysed independently, then combined to bring together all the resources required to differentiate yourself in the eyes of your customers. In contrast, Henry Mintzberg sees strategy less as orderly structure and planning and more as ‘a pattern in a stream of decisions’.⁴ Mintzberg developed a view of strategy as what emerges when your plan meets reality, in the here and now. Crucially, this also makes middle management the vital link in the value chain because what happens there is what will make the difference for your ability to achieve a strategy. Porter essentially restricts strategy to senior management, who analyse what should be happening. Porter’s model also says the firm can and should influence its environment, whereas success in Mintzberg’s view comes from a judicious combination of i) the use of resources at hand and ii) the speed of innovation.

Internal vs. external is a central idea in strategic analysis, as we saw with the SWOT analysis, so let’s stick with the approach and look at each in turn.

The external competitive environment

Making sense of the world outside the organisation is one of the main responsibilities of senior management. There are few specific principles to rely on for this so it means the best way to begin is with broad frameworks. The most all-encompassing of these are found in the six categories known as PESTEL:

Political: Governments pass laws, set and collect taxes, influence employment policies and intervene in the economy. Where this affects your organisation, you will need to understand how these laws are created and implemented. Transnational groupings such as the EU bring an even wider backdrop of stability (or instability) to this context.

Economic: These are the macro factors that are the boundaries of economic growth, such as interest rates, wage rates, exchange rates, etc. In an interconnected economy almost every organisation is affected by this aspect.

Social: Many cultural norms also influence the business environment, such as population demographics and societal divisions. Public opinion can make or break an organisation’s strategy. Shifts in wealth, neglect of human rights, imbalances in gender equality and access to education are all examples of social factors.

Technological: The advances in knowledge brought about by science, the advances in communication enabled by the internet and computational power of computing are all examples of this.

Environmental: This includes concerns over climate change, exploration and exploitation of the environment for natural resources, agriculture and the effects of continued urbanisation globally, and the creation and treatment of waste.

Legal: This covers the laws and regulatory environment, including the level of enforcement and exploitation of loopholes in different parts of the world.

PESTEL is used to identify which external factors have the most impact on internal conditions, so a more detailed analysis at the organisational level would follow. It is an inclusive checklist that addresses the question: ‘What is the business environment like?’ It does not answer the follow-up question: ‘Is this a good environment for us?’

For this, we may turn again to Porter. The key model of a firm’s competitive environment is his Five Forces model, first presented in a landmark 1979 Harvard Business Review article as a reaction to what he saw as the over-simplified format of the SWOT.⁵ Five Forces has attracted its critics in recent years but is still widely used. The big idea is that the attractiveness (i.e. profitability) of an industry or sector is the interplay of five factors and you analyse whether the influence on your organisation of each is high, medium or low:

• Rivalry between firms: the central idea. Competition for market share will be fierce if competitors are well balanced or if consumers can easily switch.
• Threat of new entrants: you are vulnerable if there are no barriers to entry to your industry. New rivals can easily force your margins down as you compete for customers.
• Bargaining power of buyers: this is high if your customers can put pressure on you, are sensitive to price, or if your structure has high fixed costs and your margins are low.
• Threat of substitutes: this is high if customers can easily (i.e. cheaply) meet a need or a want in another way. This is why Coca-Cola owns so many other ways of satisfying your thirst.
• Bargaining power of suppliers: this is high if you rely on only certain suppliers, or those suppliers would have a low cost to switch away from you (the inclusion of suppliers and buyers links to Porter’s value and supply chain concepts mentioned earlier).

Porter’s model has been ‘top of the pops’ for a long time and is worth applying because it forces you to ask some good questions about your business model. Its limitation is that it assumes possession of perfect information and that the context is relatively stable. Complexities in the contexts surrounding each of the Five Forces are not reflected in the analysis and there has been little empirical evidence that any industry or sector actually conforms to this model. Nor does it easily explain alliances and cooperative behaviours among players in a market, which are commonplace.

This is a rich case for strategists. Is Auto Trader’s new direction a result of internal or external logic? It is following the market and consumer behaviour while also reacting to the threat of competitors taking market share and substitute channels which may be new entrants. The move is a seismic change of culture because from print to digital has meant shedding old jobs and hiring in new skills. The culture change involves modernising suppliers (car dealers), too, not just customers. All sorts of new revenue opportunities from an expertise in mobile technology may also present themselves.

The internal competitive environment

The external approach scans the world for its nature and its opportunities. You start with what you find. The internal approach to strategy starts with what you know you have got and with the things you know you can do best. The resource-based view (RBV) measures your company’s competitive advantage in terms of the:

• intangible asset of human capital (knowledge management, and the talents, skills and experience of people) and their social capital (the networks that those people have)
• tangible assets of equipment, machinery, reputation, funding and so on.

To form an advantage, however, these resources need to be difficult for your competitors to imitate. They must also provide access to important market segments and contribute to the value proposition.

The internal view is an argument to make strategy based on your core competencies. We looked at competencies for individuals in Chapter 2, but they have easily been applied to organisations as well. C.K. Prahalad and Gary Hamel were the main champions of this ‘inside-to-outside’ approach in the 1990s.⁶ They proposed combining people skills with technology to foresee what value might look like in the future. However, for them the exercise is not just a list of what you’re good at, it is more a willingness to view all qualities of the business as fluid, receptive to change and capable of exploiting future opportunities. Examples of companies that have been agile in reinventing themselves include Nokia (rubber to mobile phones), IBM (from adding machines, to mainframes, to clone PCs, to consulting and IT) and India’s Wipro (vegetable products to IT consulting).

Many organisations with a large enough critical mass can reinvent themselves in subtle ways. Xerox, for instance, now sells more services than copiers, while Netflix recovered from a collapse of sales in rental DVDs to re-emerge in online streaming of content, including its own productions. Enron’s rise and very public fall was an unethical form of reinvention, an example of the systemic dangers of hubris and unsustainable greed disguised behind a veneer of favourable company HR policies. The economy is clearly an ecosystem where many more companies will fail than survive, even those with (on paper) all the right ingredients.

Assessing competitive advantage

An organisation’s competencies are difficult to define, except perhaps in hindsight. Even if strategy fortune-telling were true, competencies can walk out of your organisation before the much planned-for opportunity arrives. The future is by definition unpredictable and despite the number of consultants out there, no one has yet written the definitive book of rules on how to maintain a truly sustainable competitive advantage.

I’ve mentioned competitive advantage several times now. On a good MBA you always define your terms, so what exactly does the phrase mean? First, there can be no advantage without disadvantage, so this is fundamentally a comparison against others (a ratio, in fact). Second, organisations need to be viable to sustain themselves, so this must be tied very closely to cash flow where the advantage is achieved ultimately through either profit margins or control of costs. Is this what competitive advantage boils down to? It may be a very relevant question to ask. Scottish economist John Kay’s 1993 model for distinctive capabilities lists three sources of competitive advantage.⁷ Each is quite difficult to achieve and none fits neatly into any formula or recipe:

• Architecture: the network of relationships and routines that sustains the identity of the organisation over time. This links us to many other themes in The Every Day MBA, such as organisational culture and supply chain management. Architecture includes the strategic managing of knowledge and flows of information. Any such aspect you have but that is unavailable to others constitutes a real advantage because it is systemic and hard to imitate.
• Reputation: the whole point of pursuing quality is to establish in the mind of your customers that it is worthwhile maintaining their relationship with you. Traditionally, this loyalty was seen as important only for products experienced over the long term and used regularly. This is changing and I would argue that it is important in every case (see Chapter 11). This long-term relationship between buyer and seller seeks an equitable balance of exchange. Customers must feel they are receiving value and will be happy to pay for this if they are sure they are respected, and buyers must feel they are not being forced to undersell what they do. Reputation involves the delicate give and take of trust (‘trust us, we know what we’re doing’) and once gained is the second source of real advantage.
• Innovation: the third distinctive capability is the most difficult to turn into a competitive advantage. This may be because of the uncertainties of return on future investments (which we looked at in Chapter 5) or because there are few recipes for introducing new offerings ahead of competitors. If you can do this, perhaps through innovative research and development (R&D), it may well give you an edge. Innovation, though, carries risk. Being the first mover in a market is sometimes a critical element for strategy (as in the pharmaceutical sector), but it doesn’t always pay off.

Kay’s thinking borrowed from game theory, which did not capture the unpredictable nature of open systems such as consumer markets or, ultimately, the globalised economy. He has since refined and added to his ideas and suggests that strategic success is often oblique (that is, in an uncertain world we often end up achieving goals through indirect approaches, not direct ones).

Portfolios and scenario planning

A MABA analysis is a high-level tool for determining decisions. It compares the external market attractiveness (MA) – such as profit margins, market size and expected growth, and competitiveness of an offering – with the business attractiveness (BA) – an internal analysis on how much sense the market opportunity makes given present products, services, activities and competencies. The well-known format was developed by McKinsey with GE for use in large organisations with a large number of product or service portfolios.

FIGURE 7.1 McKinsey–GE grid
Source: McKinsey & Company in collaboration with General Electric. Reproduced with permission.

The matrix brings together supply chain and value chains, generic strategies, industry attractiveness models and managerial accounting. To simplify things (sort of), the GE matrix gives each factor a weighting that reflects how it influences either market or business attractiveness. Units in the portfolio are represented by a circle showing the size of the market (size of the circle), share of the market (as a pie chart) and direction of potential in attractiveness (an arrow), as in Figure 7.1.

A MABA analysis is much more than a grid and may involve many steps to complete. It will need to include a lot of educated guesses about segment size and market share potential to be done thoroughly. In fact, for some the main problem is that the choice and weighing of market or business indicators (e.g. margins relative to competitors) is often a matter of opinion. Figures that are based on opinion might look robust but are only as good as the assumptions and the thinking underlying them.

Strategy’s uneasy relationship with the future

No plan survives the first encounter with an event it did not foresee. The unpredictability of the future is the Achilles heel of strategic planning. This may be one reason why financial markets respond positively to signals of stability and why many senior managers are cautious when protecting the interests of shareholders. Unpredictability means any plans you make will be risky and companies identify and minimise risk in many ways (we will look at this in the next chapter), so strategic thinking is a balance between visionary thinking and discounting uncertainty.

Following the energy crises of the 1970s, many organisations started to adopt a way of thinking developed by Shell. Scenario planning accepts that the present is no indicator of the future and that uncertainty about what will happen needs to be part of the process. Future events are seen either as predetermined (i.e. already set in motion) or undetermined (i.e. the consequences of events already set in motion). Scenario planning requires the manager to let go of the logic of current thinking and therefore has a lot to do with awareness and critical thinking about how things work. There are three steps:

1. Identify predetermined elements. What is already happening? What are the current trends that will impact the organisation? How are things connected currently?
2. Ask what sorts of uncertainties these relationships could produce.
3. Develop (up to four) alternative scenarios that reflect the effects of variations in specific, identified uncertainties or boundaries.

Scenario planning is a way to structure thinking. Correctly done (which means ‘slowly done’), its strength is that it takes into account the open nature of the environment. It requires a clear vision and attention to detail in planning, but encourages you to scan your surroundings.

Putting it together: the future is unwritten

Strategy is the search for cohesion, so it is interesting to note how much disagreement there is about its meaning. Perhaps this should not be a surprise. After all, strategy is the subject most associated with sense making and that is not a clear-cut process. In strategy it is often said that the devil is not in the detail, it’s in the implementation. So how can you transcend the many debates and escape the myriad traps? Here are a few additional questions to prompt your thinking:

1. Is strategy fully defined? The models and theories in this chapter have been based mostly on activities in large corporations, many based in North America. Do these ideas apply to other parts of the world, or equally well to small and medium-sized companies? What about the public or not-for-profit sectors?
2. Is strategy not the ‘grand design’ but rather the process of managing tiny feedback loops (known as the iterative process)? Many managers are unhappy with the idea that strategy formulation is a remote process and that planning must precede implementation. Strategy may actually happen at the coal-face.
3. What is the moral dimension of strategy? The standard mantras of competitive advantage and shareholder value have, some would argue, made strategy blind to moral and ethical issues and obsessive about winning.

It is important to raise these questions. International business (the subject of Chapter 9) is influenced by our cultural biases and these in turn influence our theories of business and economics. The link between strategy and values has often been overlooked – it requires a long-term view, not a short-term one. In the end, you need to make up your own mind whether strategy is made on the go or brought about by planning. Only you can decide whether it is limited to meeting corporate goals or has a duty to meet social ones as well. We will look at this again in Part 4, under leadership (Chapter 10) and reputation (Chapter 11).

Further reading

The choice of books on strategy is enormous and it is worth spending some time browsing, so this list is by no means exhaustive:

Notes

1 Drucker, P. (1979) Management, Pan Books, p. 445.

2 www.pg.com/en_US/company/purpose_people/pvp.shtml, The Procter & Gamble Company. Extract reproduced with permission.

3 Porter, M.E. (2004) Competitive Strategy: Techniques for analyzing industries and competitors, New Edition, Free Press.

4 Mintzberg, H. (1978) ‘Patterns in strategy formation’, Management Science, 24(9): 934–948.

5 Porter, M.E. (1979) ‘How competitive forces shape strategy’, Harvard Business Review, March–April, 57(2): 137–145.

6 Hamel, G. and Prahalad, C.K. (1996) Competing for the Future, Harvard Business School Press.

7 Kay, J. (1993) Foundations of Corporate Success, Oxford University Press.