Making The Case

Contemporary Methods and Tools for Successful Strategic Analysis

This month we will focus on illustrating a series of methods and tools that are employed by market leading organizations to Aid in the strategic analysis process.

Balanced Scorecard
The Balanced Scorecard, popularized by Kaplan & Norton, is a measurement framework that incorporates both financial and non-financial measures.  These measures allow strategic objectives to be cascaded throughout the organization down to an individual level, thus linking the activities of the individual employee with the strategic objectives of the firm.

For further reading see:
The Balanced Scorecard: Translating Strategy into Action, by Robert S. Kaplan, David P. Norton
The Strategy-Focused Organization: How Balanced Scorecard Companies Thrive in the New Business Environment, by Robert S. Kaplan, David P. Norton

BCG Matrix
This framework, developed by the strategy consulting firm Boston Consulting Group, is a portfolio approach to strategic analysis based on two key variables: market share and market growth.  The entities within the portfolio (traditionally business units within a conglomerate organization, but equally individual products or market segments) can be positioned within the matrix, and strategies developed based on their relative position.  The four quadrants of the matrix, derived by categorizing the two variables into “high” and “low”, allow the businesses to be categorized into:
1. Stars – Represent the best long-term prospects in the firm’s portfolio.  Companies should invest and nurture these businesses for long-term benefit.
2. Question Marks – A company should invest in Question Marks in to turn them into Stars, or divest them (i.e. an “up or out” strategy).
3. Cash Cows – The stable environment these businesses enjoy should be exploited.  These businesses should be “milked” for resources for redeployment to Stars or Dogs.
4. Dogs – Represent a long-term liability for the company and should be divested.

For further reading see:
Strategy Safari: A Guided Tour Through the Wilds of Strategic Management, by Henry Mintzberg, Bruce Ahlstrand, Joseph Lampel

Break Even Analysis
Break even analysis determines the minimum volume of sales necessary to cover the total costs involved.  The necessary sales are called the break even quantity, where:
The break even quantity = (FC)/(P-VC)
FC = Fixed Costs, P = Price, VC = Variable Costs

Core Competencies

Core competencies are those things at which an organization excels, and which provide potential access to a wide variety of markets, make a significant contribution to the perceived customer benefits of the end product, and are difficult for competitors to imitate.

For further reading see:
The Core Competence of the Corporation, by C.K. Prahalad, Gary Hamel, HBR (downloadable)
Competing for the Future, by Gary Hamel, C. K. Prahalad

Critical Success Factors (CSF’s)
Critical success factors are those attributes which determine success of organizations within a given market or industry.  Identification of CSF’s allow an organization to focus on the drivers of competitive advantage.  For example the CSF’s within the wood pulp and paper industry are owning large forests and maximizing yield.

For further reading see:
Porter, Michael, Competitive Strategy

Economic Value Added (EVA)

EVA is a measure of the financial performance of an organization.  It combines the accounting concept profit with the principle that all capital used by an organization has a cost.  EVA is defined as:
NOPAT – (WACC * Capital)
NOPAT = Net Operating Profit after tax
WACC = Weighted Average Cost of Capital
Value to shareholders is only generated when a company’s return on capital exceeds its cost of capital.  EVA provides a more useful measure of the value or ‘profit’ produced by an organization than accounting profit as it incorporates the cost of using capital to generate a return.  “EVA” is a trademark of the consulting firm Stern Stewart & Company.

For further reading see:
The EVA Challenge: Implementing Value Added Change in an Organization, by Joel M. Stern, John S. Shiely, Irwin Ross
EVA and Value-Based Management: A Practical Guide to Implementation, by S. David Young, Stephen F. O’Byrne

Discoun
ted Cash Flow (DCF) Analysis
A method of appraising capital investment projects by comparing their income in the future and their present and future costs with current equivalents.  The current equivalents take account of the fact that future receipts are less valuable than current receipts, due to inflation, opportunity cost and risk factors.
The current economic value of a project calculated by summing its costs and revenues over its full life and deducting the former from the latter.  If the calculation yields a positive net present value then the project should be profitable.  Future cash flows should be discounted by the weighted average cost of capital to the firm.

For further reading see:
What’s It Worth?: A General Manager’s Guide to Valuation, by Timothy A. Luehrman, HBR (downloadable)
Valuation: Measuring and Managing the Value of Companies, 3rd Edition, by McKinsey & Company Inc., Tom Copeland, Tim Koller, Jack Murrin

Five Forces

The Five Forces model, developed by Michael Porter, is used to assess the competitive forces at work in a given industry and determine the overall attractiveness of that industry.  The five forces are:
1. Internal Rivalry – The level of rivalry amongst incumbent firms within an industry.
2. Treat of New Entrants – The threat that non-traditional competitors will enter the industry.  This threat is increased when barriers to entry are low and above average profits are enjoyed by industry incumbents.
3. Threat of Substitutes – The competitive threat posed by products which provide the same functionality as the existing products.  This threat is high when the switching costs of customers is low or when products are susceptible to technological change.
4. Supplier Power – The level of influence suppliers have within the industry over such things as over price, quality, service, or terms and conditions of sale.  Supplier power is high when there is supply-side concentration, when switching costs are high, or when the inputs are key components of the final product.
5. Buyer Power – The level of influence buyers have within the industry over such things as over price, quality, service, or terms and conditions of sale.  Like supplier power, buyer power is dependent upon such things as concentration, switching costs, and product composition.

For further reading see:
How Competitive Forces Shape Strategy, by Michael E. Porter, HBR (downloadable)

Four P’s

The Four P’s are a framework for assessing the four key dimensions of a marketing strategy (or “marketing mix”).
1. Product – Core/peripheral tangible/intangible attributes
2. Price – Penetration, skimming, parity, etc.
3. Promotion – Advertising, face-to-face, direct marketing, public relations
4. Placement – Channel selection, direct/indirect, wholesale/retail

For further reading see:
A Framework for Marketing Management, by Philip Kotler

Gap Analysis

A model developed by Igor Ansoff’s where, “strategy is designed to transform the firm from the present position to the position described by the objectives, subject to the constraints of the capabilities and the potential” of the organization.  The model specifically stresses two concepts:
1. Gap analysis – designed to evaluate the difference (gap) between the current position of the firm and its objectives.  The organization then chooses the strategy that substantially closes the gap.
2. Synergy – refers to the idea that firms must seek product-market posture with a combined performance that is greater than the sum of its parts, more commonly known as the “2+2=5” formula

For further reading see:
Implanting Strategic Management (2nd Edition) by Igor Ansoff, Edward McDonnell, Linda Lindsey, Stephen Beach

Game Theory
A mathematical theory developed by von Newmann and Morganstern in 1944 that describes the optimisation of decision making in a competitive situation where the outcome of a player’s actions are dependant upon the actions of other players.  Game theory relies upon the construction of a “payoff matrix” for the competitive situation, where the outcome of all combinations of competitive options can be quantified.  Game theory can be extended to describe cartels, collusion and other co-operative situations.  A classic example of game theory is the prisoners’ dilemma.

For further reading see:
Strategy: An Introduction to Game Theory, by Joel Watson
The Right Game: Use Game Theory to Shape Strategy, by Adam Brandenburger, Barry J. Nalebuff, HBR (downloadable)

General Electric Matrix
The GE matrix is a portfolio approach to strategic management similar in nature to the BCG matrix.  Unlike the BCG matrix, the GE matrix uses multiple factors to assess industry attractiveness and competitive strength, rather than just market share and relative market share.  GE also expanded the matrix from four to nine quadrants by increasing the categories on each axis to high, medium and low.  The strategic conclusions of the framework are similar to the BCG matrix and fall into three broad categories:
1. Invest / grow
2. Selectivity / earning
3. Harvest / Divest

Generic Strategies
According to Michael Porter, business strategies can be classified into three broad categories:
1. Cost Leadership – The company achieves the lowest production and distribution costs in the industry so that it can price lower than its competitors.  Firms pursuing this strategy must be good at production and supply chain optimization, rather than marketing.
2. Differentiation – The company focuses on delivering to the customer a benefit valued by them, and not provided by another competitor.  This requires a company to develop service leadership, quality leadership, technological leadership, etc.
3. Focus – The company becomes a niche player in delivering to the specific needs of a particular market segment.
Those firms that are at most risk are those that try to pursue one or more of these strategies, or do not have a clearly defined strategy.

For further reading see:
Competitive Strategy: Techniques for Analyzing Industries and Competitors, by Michael E. Porter

Grand Strategies
Sometimes referred to as master or business strategies, grand strategies refer to the broad options available to organizations in pursuing their long term objectives.  Grand strategies include:
1. Concentrated Growth – A focus on a particular product / market combination. (i.e. selling existing products to existing markets).  Examples include Coca Cola, Avon or McDonalds Restaurants.
2. Market Development – Selling existing products to new markets.  Can include national / international expansion, or cross selling to new market segments.
3. Product Development – Developing new products for existing markets.
4. Innovation – A focus on product, process and management innovation.
5. Horizontal Integration – The acquisition of a company at the same stage of the value chain.
6. Vertical Integration – The acquisition of a company either further down the supply chain to wholesalers and retailers (forward integration), or further up the supply chain to suppliers (backward integration).
7. Joint Venture – A co-operative arrangement between a number of competitors who, as individual companies, lack the necessary competencies or resources to compete successfully.
8. Concentric Diversification – The acquisition or internal development of a business outside of, but in some way related to a company’s existing scope of operations.
9. Conglomerate Diversification – The acquisition or internal development of a business outside of, and in no way related to a company’s existing scope of operations.
10. Retrenchment / Turnaround – Temporary measures taken to “weather the storm”, typically accomplished through cost or asset reduction.
11. Divestiture – The sale of a business or significant part of the business as a going concern.
12. Liquidation – The sale of a business’s assets, not as a going concern.

For further reading see:
Pearce, J; Robinson, R, Strategic Management – Formulation, Implementation and Control

Life Cycle Analysis

Assumes that industries and products go through four main phases during their life cycle:
1. Introduction – Market awareness of the product is limited and sales volumes are low.  Investment in advertising and promotion is required in order to stimulate consumer awareness and product trial, and profitability is low or negative as a result.  Prices are usually high and consumption is dominated by ‘early adopters’.
2. Growth – Awareness of the product increases and consumption shifts from early adopters to mass market.  Sales growth increases although profitability may be reduced by the investment required to scale up production and retain customers.  New entrants enter the market and industry/product standards emerge.
3. Maturity – Sales plateau and profit margins are reduced.  Competition shifts to production efficiency in order to maintain profitability.  Mass market consumers establish consumption patterns, and competitive rivalry intensifies as companies fight for customer loyalty and satisfaction.
4. Decline – Sales and profits start to fall as customers switch to new products and/or substitutes.

For further reading see:
Exploit the Product Life Cycle, by Theodore Levitt, HBR (downloadable)

McKinsey Seven S’s

Developed by McKinsey & Co, this framework relates to the seven areas of the organisation that should be focused upon when executing a strategy.  The seven areas are:
1. Strategy – A coherent set of actions aimed at corporate success
2. Structure – The organizational chart and accompanying detail that defines lines of reporting and division of responsibility
3. Systems – The process and flows that enable an organization to operate effectively
4. Shared values – The values that go beyond formal goals and objectives
5. Skills – The capabilities that are possessed by an organization as a whole rather than the people within it
6. Style – The way management collectively allocates time and attention and uses symbolic behaviour, which indicates what is considered important
7. Staff – The people in an organization

For further reading see:
In Search of Excellence: Lessons from America’s Best-Run Companies, by Thomas Peters, Robert H. Waterman, Tom Peters

PEST Analysis

PEST is an acronym that stands for Political, Economic, Social and Technological.  These are four key areas to focus upon when conducting an environmental scan for an organization.

For further reading see:
Marketing Strategy: The Challenge of the External Environment, by David Mercer

Profit Equation

The profit equation relates costs, price and sales volume to profit.  It is a useful framework for assessing a change in profitability of an organization.  The equation is:
Profits = [(Price – Variable Cost) x Volume] – Fixed Cost
Each of the variables should be looked at in turn and, where significant changes have occurred over time, the drivers of the change explored.

Ratio Analysis

Ratio analysis uses key financial metrics to diagnose organizational or operational problems.  Ratios are often classified into the following categories:
1. Profitability ratios
2. Market ratios
3. Long-term debt and solvency ratios
4. Activity ratios (short-term and long-term)
5. Liquidity ratios

For further reading see:
Techniques of Financial Analysis: A Guide to Value Creation, by Erich A. Helfert
Techniques of Financial Analysis: A Practical Guide to Measuring Business Performance, by Erich A. Helfert

Real Option Pricing

Traditional DCF techniques of valuation do not take account of the option created by an investment.  For example, a trial market may itself be an unprofitable investment, but will provide the company with the option of shifting to full-scale production at a later stage.  By using financial techniques for valuing stock options, “real” strategic options can be valued.  Option pricing is particularly useful for valuing:
1. Abandonment Decisions
2. Delayed Investment
3. Subsequent Investments

For further reading see:
Strategy as a Portfolio of Real Options, by Timothy A. Luehrman, HBR (downloadable)

SWOT Analysis

SWOT is acronym that stands for Strengths, Weaknesses, Opportunities, and Threats.  It is a simple framework for conducting a situational analysis of an organization which identifies a firms internal strengths and weaknesses as well as environmental opportunities and threats.

For further reading see:
The Strategy Concept and Process: A Pragmatic Approach (2nd Edition), by Arnoldo C. Hax, Nicolas S. Majluf (Contributor), Nicholas S. Majluf

Value Chain Analysis

The value chain is a concept popularized by Michael Porter, which focuses on identifying the source of competitive advantage of an organization by grouping operations into value activities.  These value activities either primary activities (i.e. transform inputs into outputs), or support activities (e.g. HR or information systems).  Analysis of the value chain allows value-adding activities to be identified and for decisions regarding outsourcing and vertical integration to be made.

For further reading see:
From Competitive Advantage to Corporate Strategy, by Michael E. Porter, HBR (downloadable)
Enriching the Value Chain: Infrastructure Strategies Beyond the Enterprise, by Bruce Robertson, Valentin Sribar
Harvard Business Review on Managing the Value Chain

Value Disciplines

Wiersema and Tracy identified three generic strategic approaches for the customer focused organization:
1. Operational excellence – Delivering superior price and convenience through efficient operations.
2. Customer intimacy – Understanding and catering to the needs of a customer segment better than any other competitors.
3. Product leadership – Providing customers with leading-edge products and services.

For further reading see:
The Discipline of Market Leaders: Choose Your Customers, Narrow Your Focus, Dominate Your Market, by Michael Treacy, Fred Wiersema
Customer Intimacy: Pick Your Partners, Shape Your Culture, Win Together, by Fred Wiersema


About the Author
I am an accomplished advanced and disruptive technology analyst. I help organizations manage their overall marketing strategy and efforts including market analysis, identification of business opportunities and risks, strategic alliances and partnering, systems engineering and customer requirements, business development programs and marketing, advertising and communications initiatives & plans.

For office hours and contact information, please use this sites contact form.

 

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