Charles W. L HillUNIVERSITY OF WASHINGTON

Gareth R.JonesTEXAS A&M UNIVERSITY

Houghton Mifflin Company Boston NewYork

Contents

Preface xiii

Part 1 Introduction to Strategic Management

1 Strategic Leadership: Managing the Strategy-MakingProcess for Competitive Advantage 1

Opening Case: Dell Computer 1Overview 3Strategic Leadership, Competitive Advantage, and Superior Performance 4

Superior Performance 4 • Competitive Advantage and a Company's Business Model 5• Industry Differences in Performance 7 • Performance in Nonprofit Enterprises 7

Strategic Managers 8Corporate-Level Managers 8 • Business-Level Managers 10 • Functional-Level Managers 10

The Strategy-Making Process 10A Model of the Strategic Planning Process 10 • Mission Statement 11 • External Analysis 16

Strategy in Action 1.1: Strategic Analysis at Time Inc. 17Internal Analysis 18 • SWOT Analysis and the Business Model 18 • StrategyImplementation 19 • The Feedback Loop 19

Strategy as an Emergent Process 20Strategy Making in an Unpredictable World 20 • Autonomous Action: Strategy Making byLower-Level Managers 20

Strategy in Action 1.2: Starbucks's Music Business 21 .Serendipity and Strategy 21

Strategy in Action 1.3: A Strategic Shift at Charles Schwab 22Intended and Emergent Strategies 22

Strategic Planning in Practice 24Scenario Planning 24 • Decentralized Planning 25 • Strategic Intent 26

Strategic Decision Making 27Cognitive Biases and Strategic Decision Making 27 • Groupthink and Strategic Decisions 29• Techniques for Improving Decision Making 29

Strategy in Action 1.4: Was Intelligence on Iraq Biased by Groupthink? 30Strategic Leadership 31

Vision, Eloquence, and Consistency 31 • Articulation of the Business Model 32• Commitment 32 • Being Well Informed 32 • Willingness to Delegate and Empower 339 The Astute Use of Power 33 • Emotional Intelligence 33

Summary of Chapter 34 • Discussion Questions 35Practicing Strategic Management 35

Small-Group Exercise: Designing a Planning System • Article File 1 • StrategicManagement Project: Module 1 • Ethics Exercise

IV Contents

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Closing Case: The Best-Laid Plans—Chrysler Hits the Wall 37Appendix to Chapter 1: Enterprise Valuation, ROIC, and Growth 39

External Analysis: The Identification ofOpportunities and Threats 41

Opening Case: The United States Beer Industry 41Overview 42Defining an Industry 43

Industry and Sector 43 9 Industry and Market Segments 44 9 Changing IndustryBoundaries 44

Porter's Five Forces Model 45Risk of Entry by Potential Competitors 46

Strategy in Action 2.1: Circumventing Entry Barriers into the Soft Drink Industry 47Rivalry Among Established Companies 49

Strategy in Action 2.2: Price Wars in the Breakfast Cereal Industry 51Industry Demand 51 9 Cost Conditions 52 9 Exit Barriers 52 9 The Bargaining Powerof Buyers 53 9 The Bargaining Power of Suppliers 54

Strategy in Action 2.3: Wal-Mart's Bargaining Power over Suppliers 55Substitute Products 56 9 A Sixth Force: Complementors 56 9 Porter's ModelSummarized 57

Running Case: Dell Computer and the Personal Computer Industry 57Strategic Groups Within Industries 58

Implications of Strategic Groups 59 9 The Role of Mobility Barriers 59Industry Life Cycle Analysis 60

Embryonic Industries 61 9 Growth Industries 61 9 Industry Shakeout 619 Mature Industries 62 9 Declining Industries 63 9 Industry Life Cycle 63

Limitations of Models for Industry Analysis 63Life Cycle Issues 63 9 Innovation and Change 64 9 Company Differences 66

The Macroenvironment 66Macroeconomic Forces 66 9 Global Forces 68 9 Technological Forces 689 Demographic Forces 69 9 Social Forces 70 9 Political and Legal Forces 70

Summary of Chapter 71 9 Discussion Questions 71Practicing Strategic Management 72

Small-Group Exercise: Competing with Microsoft • Article File 2 • Strategic ManagementProject: Module 2 • Ethics Exercise

Closing Case: The Pharmaceutical Industry 73Part 2 The Nature of Competitive Advantage

3 Internal Analysis: Distinctive Competencies,Competitive Advantage, and Profitability 75

Opening Case: Southwest Airlines 75Overview 76The Roots of Competitive Advantage 77

Distinctive Competencies 77 9 Competitive Advantage, Value Creation, and Profitability 80The Value Chain 83

Primary Activities 83

4

Contents V

Strategy in Action 3.1: Value Creation at Burberry 85Support Activities 85

Strategy in Action 3.2: Competitive Advantage at Zara 86The Building Blocks of Competitive Advantage 87

Efficiency 87 9 Quality as Excellence and Reliability 88 9 Innovation 90 9 CustomerResponsiveness 91 9 Business Models, the Value Chain, and Generic Distinctive Competencies 91

Analyzing Competitive Advantage and Profitability 93Running Case: Comparing Dell to Hewlett-Packard 95The Durability of Competitive Advantage 97

Barriers to Imitation 97 9 Capability of Competitors 99 9 Industry Dynamism 999 Summarizing Durability of Competitive Advantage 100

Avoiding Failure and Sustaining Competitive Advantage 100Why Companies Fail 100 9 Steps to Avoid Failure 102

Strategy in Action 3.3: The Road to Ruin at DEC 103The Role of Luck 104

Strategy in Action 3.4: Bill Gates's Lucky Break 105Summary of Chapter 105 9 Discussion of Questions 106Practicing Strategic Management 106

Small-Group Exercise: Analyzing Competitive Advantage • Active File 3 • Strategic ManagementProject: Module 3 • Ethics Exercise

Closing Case: Starbucks 107

Building Competitive Advantage ThroughFunctional-Level Strategy 109

Opening Case: Boosting Efficiency at Matsushita 109Overview 110Achieving Superior Efficiency 111

Efficiency and Economies of Scale 111 9 Efficiency and Learning Effects 113Strategy in Action 4.1: Learning Effects in Cardiac Surgery 114

Efficiency and the Experience Curve 115 9 Efficiency, Flexible Production Systems, and MassCustomization 117

Strategy in Action 4.2: Mass Customization at Lands' End 118Marketing and Efficiency 119

Materials Management, Just-in-Time, and Efficiency 121R&D Strategy and Efficiency 122 9 Human Resources Strategy and Efficiency 1229 Information Systems and Efficiency 124 9 Infrastructure and Efficiency 124

Running Case: Dell's Utilization of the Internet 125Summary: Achieving Efficiency 125

Achieving Superior Quality 126Attaining Superior Reliability 126

Strategy in Action 4.3: General Electric's Six Sigma Quality Improvement Process 128Implementing Reliability Improvement Methodologies 128 9 Improving Quality asExcellence 132

Strategy in Action 4.4: Six Sigma at Mount Carmel Health 132Achieving Superior Innovation 134

The High Failure Rate of Innovation 134 9 Building Competencies in Innovation 136Strategy in Action 4-5: Corning: Learning from Innovation Failures 141Achieving Superior Responsiveness to Customers 142

Focusing on the Customer 142 9 Satisfying Customer Needs 143Summary of Chapter 145 9 Discussion Questions 146

VI Contents

Practicing Strategic Management 146Small-Group Exercise: Identifying Excellence • Article File 4 • Strategic Management Project:Module 4 • Ethics Exercise

Closing Case: Verizon Wireless 147

Part 3 Strategies

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Building Competitive Advantage ThroughBusiness-Level Strategy 149

Opening Case: ETrade's Changing Business Strategies 149Overview 150Competitive Positioning and the Business Model 151

Formulating the Business Model: Customer Needs and Product Differentiation 151 9 Formulatingthe Business Model: Customer Groups and Market Segmentation 153 9 Implementing the BusinessModel: Building Distinctive Competencies 156

Competitive Positioning and Business-Level Strategy 157Competitive Positioning: Generic Business-Level Strategies 159

Cost Leadership 160Strategy in Action 5.1: Ryanair Takes Control over the Sky in Europe 162

Focused Cost Leadership 163 9 Differentiation 166 9 Focused Differentiation 168Strategy in Action 5.2: L. L. Bean's New Business Model 169

The Dynamics of Competitive Positioning 170Strategy in Action 5.3: Zara Uses IT to Change the World of Fashion J 71

Competitive Positioning for Superior Performance: Broad Differentiation 172Strategy in Action 5.4: Toyota's Goal? A High-Value Vehicle to Match Every Customer Need 174 .

Competitive Positioning and Strategic Groups 177 9 Failures in Competitive Positioning 179Strategy in Action 5.5: Holiday Inns on Six Continents 181Summary of Chapter 182 9 Discussion Questions 183Practicing Strategic Management 183

Small-Group Exercise: Finding a Strategy for a Restaurant • Article File 5 • StrategicManagement Project: Module 5 • Ethics Exercise

Closing Case: Samsung Changes Its Business Model Again and Again 184

Business-Level Strategy and the Industry Environment 186

Opening Case: Competition Gets Ugly in the Toy Business 186Overview 187Strategies in Fragmented Industries 188

Chaining 189 9 Franchising 190 9 Horizontal Merger 190 9 Using InformationTechnology and the Internet 190

Strategy in Action 6.1: Clear Channel Creates a National Chain of Local Radio Stations 191Strategies in Embryonic and Growth Industries 192

The Changing Nature of Market Demand 193 9 Strategic Implications: Crossing the Chasm 195Strategy in Action 6.2: How Prodigy Fell into the Chasm Between Innovators and the Early

Majority 197Strategic Implications of Market Growth Rates 198 9 Factors Affecting Market Growth Rates 1989 Strategic Implications of Differences in Growth Rates 199

Contents VII

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Navigating Through the Life Cycle to Maturity 200Embryonic Strategies 201 9 Growth Strategies 201 9 Shakeout Strategies 2029 Maturity Strategies 203

Strategy in Mature Industries 203Strategies to Deter Entry: Product Proliferation, Price Cutting, and Maintaining Excess Capacity 2049 Strategies to Manage Rivalry 206

Strategy in Action 6.3: New Competitors for Toys "R" Us 207Running Case: Dell Has to Rethink Its Business-Level Strategies 212

Game Theory 214Strategy in Action 6.4: Coca-Cola and PepsiCo Go Head-to-Head 220Strategies in Declining Industries 221

The Severity of Decline 221 9 Choosing a Strategy 222Strategy in Action 6.5: How to Make Money in the Vacuum Tube Business 223Summary of Chapter 224 9 Discussion Questions 225Practicing Strategic Management 225

Small-Group Exercise: How to Keep the Salsa Hot • Article File 6 • Strategic Management Project:Module 6 • Ethics Exercise

Closing Case: Nike's Winning Ways 226

Strategy and Technology 228

Opening Case: Format War—Blu-Ray Versus HD-DVD 228Overview 229Technical Standards and Format Wars 230

Examples of Standards 230 9 Benefits of Standards 232 9 Establishment of Standards 2339 Network Effects, Positive Feedback, and Lockout 233

Strategy in Action 7.1: How Dolby Became the Standard in Sound Technology 236Strategies for Winning a Format War 237

Ensure a Supply of Complements 237 9 Leverage Killer Applications 237 9 Aggressively Priceand Market 238 9 Cooperate with Competitors 238 9 License the Format 239

Costs in High-Technology Industries 240Comparative Cost Economics 240 9 Strategic Significance 241

Strategy in Action 7-2: Lowering the Cost of Ultrasound Equipment Through Digitalization 242Managing Intellectual Property Rights 242

Intellectual Property Rights 243 9 Digitalization and Piracy Rates 243 9 Strategies forManaging Digital Rights 244

Strategy in Action 7.3: Battling Piracy in the Videogame Industry 245Capturing First-Mover Advantages 246

First-Mover Advantages 247 9 First-Mover Disadvantages 247 9 Strategies for ExploitingFirst-Mover Advantages 248

Technological Paradigm Shifts 251Paradigm Shifts and the Decline of Established Companies 252

Strategy in Action 7-4: Disruptive Technology in Mechanical Excavators 255Strategic Implications for Established Companies 256 9 Strategic Implications for NewEntrants 258

Summary of Chapter 258 9 Discussion Questions 259Practicing Strategic Management 259

Small-Group Exercise: Digital Books • Article File 7 • Strategic Management Project:Module 7 • Ethics Exercise

Closing Case: The Failure of Friendster 260

VIII Contents

9

Strategy in the Global Environment 262

Open i ng Case: MTV—A Global Brand Goes Local 262Overview 263The Global and National Environments 264

The Globalization of Production and Markets 264Strategy in Action 8.1: Finland's Nokia 266

National Competitive Advantage 267 9 Using the Framework 269Increasing Profitability and Profit Growth Through Global Expansion 269

Expanding the Market: Leveraging Products 270 9 Realizing Cost Economies from Global Volume270 9 Realizing Location Economies 271 9 Leveraging the Skills of Global Subsidiaries 272

Cost Pressures and Pressures for Local Responsiveness 273Pressures for Cost Reductions 274 9 Pressures for Local Responsiveness 275

Strategy in Action 8.2: Localization at IKEA 276Choosing a Global Strategy 278

Global Standardization Strategy 279Running Case: Dell's Global Business Strategy 279

Localization Strategy 280 9 Transnational Strategy 280 9 International Strategy 2829 Changes in Strategy over Time 282

Basic Entry Decisions 283Which Overseas Markets to Enter 283 9 Timing of Entry 284 9 Scale of Entry and StrategicCommitments 285

The Choice of Entry Mode 286Exporting 286 9 Licensing 287 9 Franchising 288 9 Joint Ventures 289 9 WhollyOwned Subsidiaries 290 9 Choosing an Entry Strategy 291

Global Strategic Alliances 293Advantages of Strategic Alliances 293

Strategy in Action 8.3: Cisco and Fujitsu 294Disadvantages of Strategic Alliances 294 9 Making Strategic Alliances Work 295

Summary of Chapter 298 9 Discussion Questions 299Practicing Strategic Management 299

Small-Group Exercise: Developing a Global Strategy • Article File 8 • StrategicManagement Project: Module 8 • Ethics Exercise

Closing Case: The Evolution of Strategy at Procter & Gamble 300

Corporate-Level Strategy: Horizontal Integration,Vertical Integration, and Strategic Outsourcing 302

Opening Case: Oracle Strives to Become the Biggest and the Best 302Overview 303Corporate-Level Strategy and the Multibusiness Model 304Horizontal Integration: Single-Industry Strategy 305

Benefits of Horizontal Integration 307Running Case: Beating Dell: Why HP Acquired Compaq 308

Problems with Horizontal Integration 310Strategy in Action 9.1: Horizontal Integration in Health Care 311Vertical Integration: Entering New Industries to Strengthen the Core Business Model 312

Increasing Profitability Through Vertical Integration 314

Contents IX

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Strategy in Action 9.2: Specialized Assets and Vertical Integration in the AluminumIndustry 316

Problems with Vertical Integration 317 9 The Limits of Vertical Integration 318Alternatives to Vertical Integration: Cooperative Relationships 319

Short-Term Contracts and Competitive Bidding 319 9 Strategic Alliances and Long-TermContracting 320

Strategy in Action 9.3: DaimlerChrysler's U.S. Keiretsu 321Building Long-Term Cooperative Relationships 322

Strategic Outsourcing 323Benefits of Outsourcing 325 9 Risks of Outsourcing 326

Summary of Chapter 327 9 Discussion Questions 328Practicing Strategic Management 328

Small-Group Exercise: Comparing Vertical Integration Strategies • Article File 9• Strategic Management Project: Module 9 • Ethics Exercise

Closing Case: Read All About It News Corp. 329

Corporate-Level Strategy: Formulating and ImplementingRelated and Unrelated Diversification 331

Opening Case: Tyco's Rough Ride 331Overview 332Expanding Beyond a Single Industry 333

A Company as a Portfolio of Distinctive Competencies 333Increasing Profitability Through Diversification 335

Transferring Competencies Across Industries 336 9 Leveraging Competencies 337'Strategy in Action lO.l: Diversification at 3M: Leveraging Technology 338

Sharing Resources: Economies of Scope 339 9 Using Product Bundling 3409 Managing Rivalry: Multipoint Competition 340 9 Utilizing General OrganizationalCompetencies 341

Two Types of Diversification 343Related Diversification 344 9 Unrelated Diversification 344

Strategy in Action 10.2: Related Diversification at Intel 345Disadvantages and Limits of Diversification 346

Changing Industry- and Firm-Specific Conditions 346 9 Diversification for theWrong Reasons 346 9 The Bureaucratic Costs of Diversification 347

Choosing a Strategy 349Related Versus Unrelated Diversification 349 9 The Web of Corporate-LevelStrategy 350

Entering New Industries: Internal New Ventures 351The Attraction of Internal New Venturing 351 9 Pitfalls of New Ventures 3529 Guidelines for Successful Internal New Venturing 353

Entering New Industries: Acquisitions 354The Attractions of Acquisitions 355 9 Acquisition Pitfalls 355

Strategy in Action IO.3: Postacquisition Problems at Mellon Bank 357Guidelines for Successful Acquisition 358

Entering New Industries: Joint Ventures 360Restructuring 361

Why Restructure? 361Summary of Chapter 362 9 Discussion Questions 362

Contents

Practicing Strategic Management 363Small-Group Exercise: Dun & Bradstreet 9 Article File 10 • Strategic Management Project:Module 10 • Ethics Exercise

Closing Case: United Technologies Has an "ACE in Its Pocket" 364

Part 4 Implementing Strategy

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Corporate Performance, Governance, andBusiness Ethics 366

Opening Case: The Rise and Fall of Dennis Kozlowski 366Overview 367Stakeholders and Corporate Performance 367

Stakeholder Impact Analysis 36"8 • The Unique Role of Stockholders 368 9 Profitability,Profit Growth, and Stakeholder Claims 369

Strategy in Action l l . l : Price Fixing at Sotheby's and Christie's 371Agency Theory 372

Principal-Agent Relationships 372 9 The Agency Problem 372Strategy in Action 11.2: Self-Dealing at Computer Associates 376Governance Mechanisms 377

The Board of Directors 377 9 Stock-Based Compensation 379 9 Financial Statements andAuditors 380 9 The Takeover Constraint 380 9 Governance Mechanisms Inside aCompany 381

Ethics and Strategy 384Ethical Issues in Strategy 384

Strategy in Action 11.3: Nike and the Sweatshop Debate 385The Roots of Unethical Behavior 388 9 The Philosophical Approaches to Ethics 3899 Behaving Ethically 392

Running Case: Dell's Code of Ethics 394Summary of Chapter 396 9 Discussion Questions 397Practicing Strategic Management 397

Small-Group Exercise: Evaluating Stakeholder Claims • Article File 11 • StrategicManagement Project: Module 11 • Ethics Exercise

Closing Case: Working Conditions at Wal-Mart 399

Implementing Strategy in Companies That Competein a Single Industry 401

Opening Case: Strategy Implementation at Dell Computer 401Overview 402Implementing Strategy Through Organizational Design 403Building Blocks of Organizational Structure 404

Grouping Tasks, Functions, and Divisions 404 • Allocating Authority and Responsibility 405Strategy in Action 12.1: Union Pacific Decentralizes to Increase Customer Responsiveness 408

Integration and Integrating Mechanisms 409Strategic Control Systems 409

Levels of Strategic Control 411 9 Types of Strategic Control Systems 411 9 UsingInformation Technology 414

Strategy in Action 12.2: Control at Cypress Semiconductor 415Strategic Reward Systems 415

Contents XI

Organizational Culture 416Culture and Strategic Leadership 417 9 Traits of Strong and Adaptive Corporate Cultures 417

Strategy in Action 12.3: How Ray Kroc Established McDonald's Culture 418Building Distinctive Competencies at the Functional Level 419

Functional Structure: Grouping by Function 419 9 The Role of Strategic Control 4209 Developing Culture at the Functional Level 421 9 Functional Structure and BureaucraticCosts 423 9 The Outsourcing Option 424

Implementing Strategy in a Single Industry 425Implementing Cost Leadership 426 9 Implementing Differentiation 427 9 ProductStructure: Implementing a Wide Product Line 428 9 Market Structure: Increasing Responsivenessto Customer Groups 429 9 Geographic Structure: Expanding Nationally 429 9 Matrix andProduct-Team Structures: Competing in Fast-Changing, High-Tech Environments 431 9 Focusing on aNarrow Product Line 433

Strategy in Action 12.4: Restructuring at Lexmark 434Restructuring and Reengineering 435Summary of Chapter 437 9 Discussion Questions 438Practicing Strategic Management 438

Small-Group Exercise: Deciding on an Organizational Structure • Article File 12 9 StrategicManagement Project: Module 12 • Ethics Exercise

Closing Case: Nokia's New Product Structure 440

Implementing Strategy in Companies That CompeteAcross Industries and Countries 442

Opening Case: Ford Has a New CEO and a New Global Structure 442Overview 443Managing Corporate Strategy Through the Multidivisional Structure 444

Advantages of a Multidivisional Structure 447 9 Problems in Implementing a MultidivisionalStructure 448 9 Structure, Control, Culture, and Corporate-Level Strategy 450 9 The Role ofInformation Technology 453

Strategy in Acton 13.I: SAP's ERP Systems 454Implementing Strategy Across Countries 455

Implementing a Localization Strategy 456 9 Implementing an International Strategy 4579 Implementing a Global Standardization Strategy 458 9 Implementing a TransnationalStrategy 459

Strategy in Action 13.2: Using IT to Make Nestles Global Structure Work 460Entry Mode and Implementation 462

Internal New Venturing 462 9 Joint Venturing 465 9 Mergers and Acquisitions 466Information Technology, the Internet, and Outsourcing 467

Information Technology and Strategy Implementation 468Strategy in Action 13.3: Oracle's New Approach to Control 469

Strategic Outsourcing and Network Structure 470Strategy in Action 13.4: Li & Fung's Global Supply-Chain Management 471Summary of Chapter 472 9 Discussion Questions 473Practicing Strategic Management 473

Small-Group Exercise: Deciding on an Organizational Structure • Article File 13 • StrategicManagement Project: Module 13 • Ethics Exercise

Closing Case: GM Searches for the Right Global Structure 474

Endnotes 477Box Source Notes 493

XII Contents

Appendix: Analyzing a Case Study and Writing a Case StudyAnalysis Ci

What Is a Case Study Analysis? ClAnalyzing a Case Study C2Writing a Case Study Analysis C6The Role of Financial Analysis in Case Study Analysis C8

Profit Ratios C8 9 Liquidity Ratios C9 9 Activity Ratios CIO 9 Leverage Ratios CIO9 Shareholder-Return Ratios Cll 9 Cash Flow C12

Conclusion C12

Index II