Stratstafford12 copy

Organisational StrategyWorkshop, Oct 2012

Ross Thompson BA (Lancaster), DPM, MBA (Manchester) ACIS ,

Chartered Secretary

[email protected]

Contents

• Introductions

• Assignment!

• SESSION 1 – What is strategy?

• SESSION 2 – Internal Analysis

• SESSION 3 – Real Options in strategy

• SESSION 4 – Implementation issues2

Your tutor• 17 Years business experience to Director level in a variety

of marketing, finance and management roles.

• Many consulting assignment roles; former Director of a consultancy.

• MBA from Manchester Business School.

• Chartered Secretary.

• Research interests in: strategy, graduate employability and

money laundering.

• Career

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How we work

• Materials available on STRM002 website on Nile.

–Reading

–Exercises

–Links

–etc.

–And assignment details 4

Reading• 2 key books:

Johnson, G., Scholes, K. and Whittington, R. (2009) Exploring Corporate Strategy, 8th ed., PH

Grant, R., (2010) Contemporary Strategy Analysis, 7th ed., Wiley

• Other key reading

– Detailed on workshop slides And Assignment guide

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Reading

• Other key reading detailed in assignment notes and workshop guide.

• The Blackwell Encyclopaedia of Strategic Management is also useful as is the website:

–Valuebasedmanagement.net

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Session 1 – What is Strategy

• Reading:

– J and S, ch 1

–Grant ch 1

–Porter, M. (1996) What is strategy? , HBR, Nov-Dec (on web)

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Session 1 - Exercise

• Look at the two contrasting viewpoints of strategy by Porter and Barney (clips).

Now formulate your own view of strategyNow formulate your own view of strategy

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Strategy• My preferred approach is to consider it a process

comprising the steps of:

1. Objective setting.

2. Internal firm analysis.

3. Industry and competitor analysis.

4. Establishing a competitive position, e.g., price leadership or differentiation.

5. Choosing some strategic options. Planning.

6. Operationalising strategy. nb strategy is the setting operations is the doing

7. Evaluation and implementation. 9

Strategy

• Note differences between:

–Corporate Strategy – deciding which businesses/product groups to launch, divest, grow etc.

–Business Strategy – deciding how to develop those business or strategic business groups (SBUs).

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Session 2 – Internal analysis

• Resource School suggests:

– Competitive Advantage (CA) accrues from developing internal capabilities or competencies; in other words:

• “find what you are good at and maximise the capability”

• Works in corporate and personal life

• Often known as the Inside Out approach compared to the Outside in approach espoused by Porter et al who stress importance of external/economic factors.

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• Reading

– J and S ch 3

– Grant chs 5/6

– Barney, J. (1991) Firm resources and sustained competitive advantage, Journal of Management, 17

– Grant, R. (1991) The resource based theory of competitive advantage, CMR, Spring

– Hamel. G. and Prahalad, C. (1990) Core Competences of the organisation, HBR, 68 (on web)

– Kay, J. (1993) Foundations of Corporate Success, OUP

– Porter, M.E. (1996) What is Strategy?, HBR, Nov-Dec (on web)

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• Linked to concept of economic profit and economic value

http://www.sternstewart.com/

• economic profit = accounting profit – the opportunity cost of capital (debt + equity)

• or = PAT – (capital employed x WACC)

– where:

• pat = profit after tax (but before interest)

• wacc = weighted average cost of capital

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http://www.sternstewart.com/


• So challenge is to find:

• those capabilities, deriving from resources at a firm’s disposal that produce returns in excess of the cost of capital. This is the concept of economic rent.

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• Objective is to find rent generating resources, assets and capabilities.

• Rent is associated with Ricardo the economist who found that certain types of land yielded above average agricultural returns. Analogous to modern day premier retail locations.

• Makes sense to hunt and cultivate these resources as they offer Competitive advantage (CA).

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Assets/*resources Competences CA Tangible

intangible

* In accounting terms = assets

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Strategic Capability/Resources Terminology

Threshold resources

Resources needed to meet customers’ minimum requirements. Needed to continue to exist

Threshold competences

Activities and processes needed to meet customers’ minimum requirements. Needed to continue to exist

Unique resources

Resources underpinning competitive advantage. Difficult for competitors to imitate or obtain.

Core competences

Activities underpinning competitive advantage. Difficult for competitors to imitate or obtain

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Core Competences (Hamel and Prahalad, 1990)

• (Related to Resource School/RBV)

• Derives from learning about what you (firm) can do well.

• Must be able to extend this knowledge though, e.g., beyond firm departments, into new products and SBUs.

• Trick again is configuring these resources or competences which might be:

– skills

– routines

– assets

– alliances/relationships 18

• 3 tests of Core Competences

1. Must give access to markets - marketable

2. Must generate customer benefits – be worth something

3. Must hard to imitate – competitors should not be able to copy

• therefore need to be specific; marketing is not a CC! branding might be

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VALUABLE

RARE

NON IMITABLE

NOT SUBSTITUTABLE

Note imitation reduction caused by:

unique locations e.g. shops

path dependencies- intricacies in operations

causal ambiguity – hard to u/stand operating systems!

Social complexity – e.g. relies of large and complex network of staff, suppliers etc.

Barney’s VRIN€ MODEL20

Implications• Best not to outsource core competences/rent generating

resources

• can outsource non core areas

• core business (product grouping) is not the same as core competence

• possible to stretch core competences over other industries e.g. Universities to hotels which is dome by several such as Manchester.

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Criticisms of RBV

• Fails to take account of effect of knowledge management techniques.

• Fails to account for role of managers.

• Insufficiently detailed.

• Fails to account for developing resources.

• Cannot act in exclusion to the outside in school.

• Fails to take account of economies of learning and the effect of the experience curve in CA

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Internal Analysis : Value ChainInternal Analysis : Value Chain– Identifies strategically

relevant activities.– if largely pursuing

differentiation strategy, look to add quality / USPs in each area.

– if pursuing cost leadership, look to cut costs in each area

� Can of course attempt to do both, as in JIT / TQM systems.

– Value is the amount buyers are willing to pay for product or service

� profits occur when value exceeds cost.

Firm infrastructure: systems, procedures, administration, communication.

HRM: recruitment and retention, training, skills, pay policy, industrial relations, productivity.

Technology (including IT): patents, sophistication, choices, cost, technical skills.

Procurement: bargaining power over suppliers.

Inbound logistics:•sourcing raw materials

•ware-housing

Operating:• processing

•manu-facture

•make or buy

•assembly

Outbound logistics:•deliveries

•distribution

•lead times

Marketing:•sales

•promotion

•pricing

•advertising

•branding

•reputation

•packaging

Service:•customer care

•warranty

•dealers

M A

RG

I N

M A

R G

I N

P R

I M

A R

Y

Y

S U

P P

O R

T

NB Not all areas of the Value Chain will be equally important.

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Porter conceived in similar theory to the RBV when he outlined the activity system.It is a map of all the key operating procedures in a firm showing the relationships. The more intricate these are, the more difficult it is to copy.

Activity System (Porter, 1996)Example

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1. Using the Manchester United case material use the value chain to identify Manchester United’s core competencies.

2. How might these strengthened?

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Session 3 – Real Options

• Reading-

– Luehrman, T. (1998) Investment Opportunities as Real options, HBR, 76 (4)

– Luehrman, T. (1998) Strategy as a portfolio of real options, HBR, 76 (5) YOU MUST READ THIS

– BOTH AVAILABLE ON THE WEB

– There is also a short section in Grant and J and S.

– www.real-options.com/resources_links.htm26

Introduction to real options(also called management or

strategic options)We all have options:

•Getting married?!!•Having children•Study or work?

And businesses have options:

•Delay/stall•Expand•Switch resources•New products•New markets etc

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Introduction: Real options V Financial options

Real Options Financial Options

Option (not requirement) to make a business choice/ option to buy (call) or sell (put) a derivative or non-real asset e.g. invest in a project, product etc. at a given time (European) or in a period (American)Therefore views business a series of call options

SO REAL OPTIONS ARE OPTIONS WITHIN OPTIONS/STRATEGIESSO REAL OPTIONS ARE OPTIONS WITHIN OPTIONS/STRATEGIESEG ONE PARTICULAY INVESTMENT (OPTION) MAY

HAVE HIDDEN OPTIONS EG TO DELAY.

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Introduction to real options

• Differ from financial options (derivatives) as they involve real assets e.g. launching a new product/ pursuing a new strategy.

• Becoming increasingly important in “choppy” and innovative economic times e.g. internet and digitisation(now):

– strategies increasingly have to be altered;

– businesses need to be more adroit/responsive;

– and therefore need to constantly appraise ie,value, their options.

• Business strategies with hidden – real – options maybe therefore valuable as they reduce risk.

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Types of Options in Business

R and D

NPD

Change inputs mix

Acquire assets

Buy/merge withCompetitors

Acquire newtechnology

STRATEGY

Cost savings

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Types and uses of real options

1, Delay options

Conventional NPV/DCF techniques assume

a now or never and linear approach to investment. Frequently though, investment can be delayed and this decision may affect chances of success/profitability, e.g., as better information comes on board.

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1, Delay options cond

•Most frequent in new product development situations where the competition is locked out ,e.g., via entry barriers such as patents and when the market is uncertain.

•Example:

– A drug firm has a patent on a new drug and delays investment until the costs of borrowing come down thus enhancing profitability.

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2, Abandonment options

•Again the npv approach assumes continuity throughout product life. But in reality there may be the scope to abandon the project if say costs are prohibitive. This will then impact project profitability.

•Example/Exercise

•A firm spends £50 000 on new project that yields cash flows of £15,000 per year for 5 years. If it is hit with a further, unplanned costs of £20 000 in year 1 the project is now unprofitable and it would make sense to abandon the project – if possible – as less money will be lost.

•Demonstrate this advantage assuming a cost of capital of 10%.

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3, Flexibility options

•In many commercial organisations it may be possible to alter:

– input mixes e.g. supplies (with new cost);

– customer/channel choices;

– Business location;

– Etc.

•All of which will impact profitability.

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Valuing real options- Black Scholes (Luehrman)

• The Black Scholes method is the way of calculating financial option values (calls).

• Many academics have used variants of this approach to value real options.

• This means using quite tricky mathematics – and this may explain why many strategists shy away from studying real options (Grant, 2010).

• FOR THIS MODULE DO NOT WORRY ABOUT CALCULATIONS – INSTEAD UNDERSTAND WHAT REAL OPTIONS ARE, WHY THEY MAY BE VALUBLE AND HOW TO SPOT THEM.

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Valuing real options- Black Scholes (Luehrman)

Black Scholes elements

• Stock Price

• Exercise Price

• Time to expiry

• Risk free rate

• Variance of returns

Real Option equivalents• Present Value of the project

(PV S) S

• Project cost (PV C) X

• Length of term(t) t

• Time Value of Money rf

• Project risk (SD) SD per year

These 5 variables can then be simplified further into:Value to cost ratio: PV S/PV C or S/XVolatility: SD x √ t .

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Valuing real options- Black Scholes

• Calculating volatility tricky – how to:

– Make an estimate e.g. indexes have an SD of about 20%, manufacturing stocks are about 40%.

– Use historical data on investment returns.

– Use implied volatility based on volatility of financial options in similar classes of businesses.

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Once we have calculated value to cost and volatility we can plot them on an Option Space Grid to give us indications of what we should do(Luehrman). You can do this without calculations

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Using the grid

Note option value increases as we move right and down:

Value to Cost

VolatilityVALUE

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Real Options – the verdict

Advantages• Richer than npv – factors

in more elements to investment decisions.

• In particular recognises the ability to delay projects.

• Suitable in today’s choppy economic climate.

• Becoming more popular.

• Many uses – see earlier examples.

Disadvantages• Complicated maths.

• Some figures might be hard to identify e.g. cost of capital.

• Hard to get precise figures e.g. for volatility; therefore it is a good idea to carryout sensitivity analysis, e.g., change volatility figures.

• Proxies e.g. suitable financial options may be hard to identify.

• Can be hard to spot embedded options.

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Session 3 -Exercise

For a company that you are familiar with, reflect upon some of the strategies available to develop the corporate.

1.Assess whether or nor these strategies include: delay, abandonment or flexibility options.2.Use the options grid to assess when some of these strategies should be enacted.

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Session 4 – Implementation of strategy

• For this session we will focus upon implementing strategy and preventing it from wandering off course (strategic drift)

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Session 4 - reading

• Grant ch 2 and 17

• J and S ch 10, 12

• Kaplan, R. and Norton, D. (1992) Balanced scorecard – Measures that drive Performance, HBR, April-May (on the web; this is the first of five articles published by the authors in the HBR)

• Rumelt, R (2011) Good Strategy, Bad Strategy, Random House

• http://www.mckinseyquarterly.com/Strategys_strategist_An_interview_with_Richard_Rumelt_2039 (register first - excellent commentary on Rumelt)

• http://www.anderson.ucla.edu/faculty/dick.rumelt/Docs/Papers/EVAL2.pdf

– (Rumelt criteria)

• See also:

– 2gc.com

• For Balanced scorecard resources esp. for 3rd generation

– scorecardshttp://www.balancedscorecard.org/BSCResources/AbouttheBalancedScorecard/tabid/55/Default.aspx

o

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http://www.mckinseyquarterly.com/Strategys_strategist_An_interview_with_Richard_Rumelt_2039

http://www.anderson.ucla.edu/faculty/dick.rumelt/Docs/Papers/EVAL2.pdf

Session 4 - Implementation

• This session focuses upon ensuring your strategy – whatever it is – does not wander of course. To do this we must measure and evaluate it.

• We shall focus upon:

–The Balanced Scorecard (Kaplan and Norton)

–Rumelt’s criteria 44

The BALANCED SCORECARD

Financial perspective

GOALS MEASURES

Customer perspective

GOALS MEASURES

Innovation andlearning perspective

GOALS MEASURES

Internal businessperspective

GOALS MEASURES

Source: The Balanced Scorecard - Measures That Drive Performance. Robert S. Kaplan and David P. Norton. Harvard Business Review.

Jan/Feb 1992. Pages 71 - 79.

How do we look to shareholders?

What must we excel at?

Can we continue to improve and create

value?

How do customers see us?

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Balanced Scorecard

• The key to the BSC is to:

• Select performance dimensions (originally Kaplan and Norton envisaged 4 – but you can add/amend)

• In each dimension you need 2-5 metrics or measures to measure each dimension.

• Key is to design accurate, realistic and practical measures that the firm can operationalise.

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Balanced Scorecard

• Key is to balance the measures/metrics:

1. Qualitative and quantitative

2. Leading (forward looking) or lagging (looking at the past – e.g. as in accounting reports)

3. Internal (firm) or external (industry)

REMEMBER YOU TAILOR DIMENSIONS AROUND THE FIRM AND CONTEXT

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Balanced Scorecard• It is important that:

• There are clear linkages between dimensions and the metrics in each dimensions: it is normal to establish goals in each dimensions and then find matching metrics.

• The BSC cascades throughout the organisations: corporate level; business/SBU level; department level; personal level via appraisal systems.

• The BSC is united under an overarching aim or mission. See the 2gc.com website and look at the material under 3rd generation scorecards.

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FOR EACH DIMENSION EG FINANACIAL STIPULATE GOALS AND METRICS AND ENSURE LINKAGE

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Learning & Growth Perspective:Possible Measures

Revenues from new products

R&D resources & costs

Investment in training

Suggested improvements per employee

Employee age profile

Employee turnover rates

% full-time permanent employees

Staff flexibility / job coverage

Staff surveys 50

Financial Perspective:Possible Measures

Revenues per employee

Cost ratios

Market value

Value added per employee

Return on net assets

Revenues / total assets

Profit margin

Contribution / revenue

Cash flow 51

Customer Perspective:Possible Measures

Market share

# customers

Sales closed / sales contacts

Customer loyalty index

Average duration of customer relationship

Service expense per customer

Customers lost / churn ratio

Customer survey ratings52

Internal Business Process Perspective: Possible Measures

Administrative expense

On-time delivery %

Lead time (product development, order to delivery, suppliers)

Productivity improvement

Decision turnaround time

Service expense per customer IT capacity & expense

Error rates

Environmental impact of product use 53

Strategy Review, Evaluation, & Control

Consonance

Consistency

Feasibility

Advantage

Rumelt’s4 Criteria

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• Strategy should not present inconsistent goals & policies

Consistency

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• Need for strategies to examine sets of trends

Consonance

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• Neither overtax resources or create unsolvable sub-problems

Feasibility

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• Creation or maintenance of competitive advantage

Advantage

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Design a Balanced Scorecard for Manchester United; use the original four dimensions and devise 2-3 metrics for each one. Be prepared to justify your choices.

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