Download - BM 499 Ghemawat, Chapter 2
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BM 499Ghemawat, Chapter 2Darral G. ClarkeProfessor of Management
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ROE-Ke Spread
(15%)
(10%)
(5%)
0%
5%
10%
15%
20%
0 100 200 300 400 500 600 700 800 900 1,000 1,100 1,200 1,300
Average Invested Equity ($B)
Toiletries/Cosmetics
Steel
PharmaceuticalsSoft Drink
TobaccoFood Processing
Household ProductsElectrical Equipment
Financial ServicesSpecialty Chemicals
NewspaperBank Integrated Petroleum
Telecom Retail Store
Tire & RubberElectric Utility - Central
Electric Utility - East
Medical ServicesMachinery
Auto & TruckComputer & Peripheral
Paper & ForestAir Transport
Source: Compustat, Value Line, Marakon Associates Analysis
Average Economic Profits of U.S. Industry Groups, 1978-1996
Value Line Industry Groups
Darral G. Clarke for BM 499
0
10
20
30
40
50
60
70
80
90
100
2% 4% 6% 8% 10%
12%
14%
16%
18%
20%
22%
24%
26%
28%
30%
32%
Numberof
Industries
First QuartileAverage
22.2%Fourth Quartile
Average9.3%
Note: Return on Equity = Net Income / Year End Shareholders’ Equity; Analysis based on sample of 593 industries
Average = 14.7%Median = 13.8%
11.7%
13.8%
16.5%
Return on Equity (Percent)
Average Return on Equity in US Industries, 1982-1993
Distribution of Industry Returns
Source: Jan W. Rivkin’s Analysis Based on Dun and Bradstreet Data
Darral G. Clarke for BM 499 Source: Jan W. Rivkin based on Compustat
Computer system design
Operating Income / Assets, 1988-95 (%)
0 5 10 15 20 25
Scheduled airlines
Motor vehicles
Cable TV service
Engineering services
Trucking except local
Race track operations
Petroleum / natural gas
Drug stores
Eating places
Dental equipment
Women's clothing stores
Semiconductors
Prepackaged software
Pharmaceuticals
Profitability Differences Across Selected Industries
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30
40
50
60
70
80
90
100
Prof
itabi
lity
Choice BChoice A
A Three-Dimensional Business Landscape
Darral G. Clarke for BM 499
Supply
Demand
PhysicalUnits
EquilibriumQuantity
EquilibriumPrice
MonetaryUnits
Supply-Demand Analysis
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Beds (% of total market 8,270 beds)
Case mix adjusted expenseper adjusted day ($)
Source: Partners HealthCare System, Inc. (A), Case #696-062
Lah
ey
Law
renc
e
Nor
woo
d
0
100
200
300
400
500
600
700
800
900
Win
ches
ter
Atla
ntic
are
Bev
erly
Low
ell
St. J
ohns
Sout
h Sh
ore
God
dard
Faulkner
0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100%
Wal
tham
NN
E M
emor
ial
Malden
Leo
nard
Mor
se
Sale
m
St. E
lizab
eth'
s
Mou
nt A
ubur
n
New
ton-
Wel
lesl
ey
NE
Med
ical
Cen
ter
Fram
ingh
am
HM
C
Uni
vers
ity
Supply Curve for Boston Hospitals
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Supply / demand analyses say little about what determines the position and shape of the two curves
From Supply / Demand to the Five Forces
What determines the long-run supply / demand balance? Entry barriers and intensity of rivalry affect whether firms will
add capacity in response to excess demand Exit barriers affect whether firms will retire capacity in
response to excess supplyWhat determines the effect of a supply / demand imbalance on profitability?
In industries with intense rivalry or powerful buyers, small amounts of excess capacity tend to lead to big price wars
In industries with powerful suppliers, the benefits of excess demand may accrue to the suppliers
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Threat of New Entry
Rivalry Among Existing
CompetitorsBargaining Power
of Customers
Threat of Substitutes
Bargaining Powerof Suppliers
Industry Analysis: The Five Forces
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Theory of the Firm: The link to the Five Forces
Five forces identifies the factors that determine differences in firm profitabilityFive forces tells us how profitability responds to changes in a large variety of factors
P
Profit
Q
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Theory of the Firm:The link between the Five Forces and profitability
Consider a sequence of market entry and decreasing differentiation
P
Profit
Q
P
QDD
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Rivalry among Current Competitors
Concentration and balanceIndustry growthFixed (or storage costs)/Value addedProduct differencesBrand identitySwitching costsIntermittent over-capacityDiverse stakesExit barriers
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Entry BarriersEconomies of scaleProduct differencesBrand identitySwitching costsCapital requirementsAccess to distribution
Absolute cost advantages Learning curve Access to necessary
inputs Low cost product design
Government policyExpected retaliation
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Power of BuyersIntrinsic Strength
Buyer concentrationBuyer volumeSwitching costsBuyer informationAbility to backward integrateSubstitute productsPull through
Price SensitivityPrice/Total purchaseProduct differencesBrand identityImpact on quality/performanceBuyer profitsDecision maker’s incentives
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Power of SuppliersSupplier concentrationSubstitute suppliersSupplier volumeProduct differencesBrand identitySwitching costsLow buyer informationThreat of forward integrationPull through
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Threat of SubstitutionProduct function not formEntire value added chainThread depends on Relative price/performance Switching costs
Often an S-curve process
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Customers
Firm
Suppliers
Competitors Complementors
A player is your complementor with respect to customers if customers value your product more when they have the other player’s product as well
A player is your competitor with respect to customers if customers value your product less when they have the other player’s product as well
A player is your complementor with respect to suppliers if it is more attractive for a supplier to provide resources to you when it is also supplying the other player
A player is your competitor with respect to suppliers if it is less attractive for a supplier to provide resources to you when it is also supplying the other player
The Value Net
Source: Adam Brandenburger and Barry Nalebuff, Co-opetition (New York: Currency Doubleday, 1996)
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Threat of New Entry
Rivalry Among Existing
CompetitorsBargaining Power
of Customers
Threat of Substitutes
Bargaining Powerof Suppliers
Availability of Complements
Expanded Industry Analysis
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The Power of ComplementorsRelative concentrationRelative buyer or supplier switching costsEase of unbundlingDifferences in pull-throughAsymmetric integration threatsRate of growth of the pie
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LandscapesLandscape is broader than industryLandscape includes firms, institutions, and other players which often are not viewed as part of an industryLandscape includes networks of firms (from different industries) whose profits may be interdependent (e.g. Microsoft-Intel)
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Commitment Opportunities and Structure
Production scale economies set a lower bound on concentrationMany settings are more concentrated than production scale economies would implyOpportunities to commit resources to advertising and R & D in ways that enhance willingness-to-pay to some minimal degree are what lead to “excess” concentration
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Steps in Landscape AnalysisDefine the landscape: what is in, what is outIdentify the players
e.g., who are the customers, really? Who are the competitors?
Assess the relationships among players See Porter (1979, 1980) for some factors to consider
Sniff-test Is assessment in line with actual profitability? Are more profitable players better positioned vis-a-vis
competitive forces?Assess recent and future changes
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Identify forces that must be countered in order to achieve superior profitability
Test decision to enter
Test decision to exit
Assess effects of a major change
Identify ways to alter structure
Pinpoint most threatening force and seek ways to counter (e.g., build switching costs, find new sources of supply)
Consider effect of entry on structure; choose relative position; select entry vehicle; compare costs of entry to benefits
Identify options for improving structure or relative position; select exit vehicle; compare costs of exit to benefits
Consider how change will affect each force
Assess consolidation, backward integration, forward integration, investments that raise entry costs, entry into substitute market, etc.
Purpose Common steps
Steps in Landscape Analysis (cont.)
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Common Pitfalls in Landscape Analysis
Failing to define the landscape clearly A clear definition is more important that the “right” definition
Confusing transient effects with structural forcesIgnoring changes in structural forcesAssuming that competitive forces cannot be alteredConfusing evidence of a force with its underlying cause
e.g., blaming customer power on customer price sensitivity rather than exploring root causes of price sensitivity
Ignoring the full range of substitutesPaying equal attention to all the forces
Darral G. Clarke for BM 499
LessonsIndustries or landscapes are neither created equal nor stay equalThe concept of “extended competition” provides a comprehensive framework for assessing structural attractivenessA firm’s strategy can increase or decrease its exposure to competitive forcesOther things being equal, a firm should seek to trigger actions that improve structural attractivenessBut it isn’t enough to look at just structural attractiveness: competitive position must also be considered
Darral G. Clarke for BM 499
ConclusionEnvisioning the business landscapeAdapting to the business landscapeShaping the business landscape