Strategy (95 page)

Like so many figures in business strategy, Henderson's background was in engineering. He was therefore attracted by the idea of systems tending to equilibrium, with the aim of strategy in a system including competitors to be one of first upsetting the equilibrium and then reestablishing it on a more favorable basis. The challenge was to develop the necessary thinking in terms sufficiently explicit to be “executed in a coordinated fashion in complex organizations.”

His approach, in stark contrast to the complexity of Ansoff, was to apply micro-economic methodology, to develop what he called “powerful oversimplifications,” which BCG then sold to companies.
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The oversimplification that established his reputation was the “experience curve.” Based on early studies of the aircraft industry, the core idea was that the more units produced, the lower the costs and the higher the profits. When plotted on a curve this could show the state of a competitive relationship. The presumption was that for companies making the same product, variations in costs were largely related to market share. Thus the effects of an increased share were calculable. Businesses should expect costs to decline systematically and predictably as a result of their superior productive experience. While the methodology encouraged companies to look at their total costs and recognize economies of scale, it could also be seriously misleading. In a mature industry the experience curve would flatten out. It could also encourage a race to the bottom, as prices were cut in the expectation of higher volumes which might not materialize, and then leave little scope for investment. As Ford's Model T experience demonstrated, even the master of a product with costs kept down to a minimum can still be caught out by a better product.

BCG's second powerful oversimplification was the growth-share matrix. A matrix was drawn with the growth in the market on one axis and share of the market on the other. Companies could then locate their various activities on the matrix. It was best to have a high share of a growing market (the stars) and worst to have a low share of a static or declining market (the dogs). The other two categories were “cash cows” and “question marks.” The images
were powerful and the logic compelling. The cows had to be looked after and the stars backed, while the dogs were candidates for divestment. Once that was sorted, only the question marks required serious thoughts. Again the imagery had a capacity to mislead. As one critic, John Seeger, noted, “The dogs may be friendly, the cows may need a bull now and then to remain productive, and the stars may have burned themselves out.” Seeger warned of the dangers of allowing management models to “substitute for analysis and common sense.” Just because a theory had elegance and simplicity did not “guarantee sanity in its use.”
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It took until 1980 before a major breakthrough in business strategy came out of a business school. Michael Porter, who had the requisite engineering background and an enthusiasm for competitive sports, entered the Harvard MBA program, where he was taught the holistic, multidimensional “business policy” philosophy. Unusually, he then enrolled for a Ph.D. in business economics. One of the courses he took was on industrial organization. This was the area of economics most conducive to business strategy because it studied situations of imperfect competition. In perfect competition, the postulate through which economic theory largely developed, the choices available to buyers and sellers created the potential for equilibrium around a specific price. By definition, perfect competition allowed no scope for an individual unit to have a special and successful strategy. The most imperfect competition would be a complete monopoly where a single supplier could set the price, also leaving little scope for strategy. The oligopolist had options, neither fully constrained by the market but affected by the moves of its competitors. The oligopolist had to be strategic, because he must anticipate these moves. There was no law to govern this situation, which is why Simon declared oligopoly to be “the permanent and ineradicable scandal of economic theory.”
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For economists, the question raised was why certain markets deviated from standard models of perfect competition. Profits should be more than sufficient to animate the company, but certain industries were extremely profitable. That was because of a lack of competitive pressure, which was the result of the “barriers to entry”—the difficulty faced when trying to establish a new position in a market. The thrust of the economics approach to industrial organization was to find ways to reduce these barriers to make the markets more competitive. With his business school background, Porter saw an opportunity to turn the theory on its head. This was a natural stance for a student of strategy, taking the point of view of the company within the industry rather than the industry as a whole. Instead of asking how the system could be made more competitive, he asked how the unit within the
system could exploit and even intensify uncompetitive elements to gain strategic advantage.

Following Ansoff in defining strategy in terms of “relating a company to its environment,” Porter devised a framework to help companies examine their competitive situation. The focus was still on providing a guide to a deliberative process for a large business, but he was more ambitious than Andrews, more focused than Ansoff, and less formulaic than Henderson.
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Porter identified two key issues. The first was seller concentration (what percentage of the market was controlled by the top four firms) and barriers to entry. Out of this came the “five forces framework” for analyzing an industry. The forces were competitive rivalry between firms, bargaining power of suppliers and of buyers, threats of new entrants and of substitute offerings. A number of factors were connected with each. The presentation was methodical and rigorous, offering basic principles and some specific tactics about how to maintain and improve a competitive position. To the critics who claimed that his analysis was too static, Porter replied that the five forces all needed to be watched precisely because they changed.

For Porter, strategy was all about positioning. The menu of strategies was small and the choice would depend on the nature of the competitive environment, with the aim of finding a position that could be defended against existing competitors and those trying to enter the market. Porter offered three generic strategies: staying market leader by keeping costs down, having a product that was sufficiently different that it could not be challenged by other competitors (differentiation), and identifying a particular part of the market where there were few challengers (market specialization). He argued that it was important to pick one of these strategies, stick to it, and never get “stuck in the middle,” because that would almost “guarantee low profitability.” Since the best position would be extremely profitable, there would then be sufficient resources to improve the position. The key thing was to find and exploit the imperfections in the market. In terms of the SWOT framework, this was about addressing opportunities and threats rather than strengths and weaknesses. There was very little interest in internal organization and the actual implementation of a strategy.

Porter's method could be criticized for being deductive. He had plenty of examples of tactics used by companies seeking product differentiation or raising barriers, but these were illustrations of propositions derived from his theory. Some of his central claims about the generic strategies and the greater value to be gained by concentrating on market position as against operational efficiency did not seem to fit the evidence. As with all structural theorists the tendency was to assume that structure had “a strong influence in determining
the competitive rules of the game as well as the strategies potentially available to the firm.”
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In practice the system was less rigid and certain than the theory assumed, and more susceptible to being transformed by truly imaginative strategies.

One striking feature of Porter's approach lay in its political implications. This was not something he dealt with explicitly, but as Mitzberg noted: “If profit really does lie in market power, then there are clearly more than economic ways to generate it.”
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The closest Porter came to making the link between competitive position and government assistance was in noting how governments “can limit or even foreclose entry into industries with such controls as licensing requirements and limits on access to raw materials.” The key arena here was that affected by antitrust legislation. Porter was well aware of the issue, noting that companies under antitrust restraints might not feel able to respond to competitors attempting to take a small market share, or how large companies may use a private antitrust suit to harass small competitors.
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He warmed to the theme in his second book,
Competitive Advantage
, noting how these suits could put financial pressure on competitors. Here he also discussed how barriers to entry could be raised higher than would naturally occur, by such methods as forming exclusive agreements with outlets to freeze out competitors, tying up suppliers, and even working in coalition with other established firms.
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A number of the activities, he noted, were frowned upon by antitrust law and were the subject of successful suits. Porter insisted that he supported antitrust legislation,
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and it was also the case that there was a degree of uncertainty surrounding this legislation in terms of the vigor with which it was applied at any time, often depending on economic circumstances. This uncertainty was a major problem for the strategist, as what might seem acceptable behavior at one moment became unacceptable the next.

In the mid-1980s, Porter advised the National Football League (NFL) in its dispute with the United States Football League (USFL). He characterized the dispute as “guerrilla warfare” and suggested aggressive strategies, such as persuading broadcasters to break their contract with the USFL, poaching the USFL's best players while encouraging the NFL's worst to go the other way, and co-opting the most powerful USFL owners while bankrupting the weakest USFL teams. This was cited in evidence when the USFL sought damages from the NFL for its anticompetitive practices. Ultimately, it was agreed that the NFL had violated the law, although only derisory damages were awarded. Porter's assistant acknowledged that legal issues had not been considered in offering advice; the NFL's defense was that it had ignored the advice.
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A similar problem emerged with Barry Nalebuff and Adam Brandenburger's
Co-Opetition
, an attempt to capture the insights of game theory for a popular audience. The title neatly captured the mixture of cooperation and competition that game theory addressed,
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although the neologism was not actually new.
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Their idea was that it would make sense to cooperate with other players in the industry to expand the business pie while competing over how it was divided up. They noted the complexity of relationships, not only with customers, suppliers, and competitors, but also complements—that is, other players with whom there was a natural cooperative and mutually dependent relationship (for example, hardware and software firms in computing). They discussed the advantages that could be gained by changing the rules of the game or by using tactics to shift perceptions of a position within the game. The influence of game theory was evident, but this was hardly a theoretical work. As with other practical work in the field it took some basic factors and reworked them in a variety of cases, offering readers some insight on how they might approach similar types of problems.

The more explicit recognition of the potential of cooperation, which would be natural in any other area of strategy, always risked appearing anticompetitive and falling foul of antitrust law. Nalebuff and Brandenburger thus celebrated Nintendo's achievements in gaining a competitive advantage in the computer games market, which allowed them to overcharge their customers (eventually requiring them to settle in the face of a suit from the Federal Trade Commission). The way the analysis was structured led the authors to naturally favor the company over the consumer. Stewart sharply commented that they “praise one company after another for cornering markets and duping customers” before acknowledging antitrust concerns. He accused them of developing an approach to strategy which was about “how to arrange a cartel without having to enter a smoke-filled backroom, how to organize a monopoly without going to the trouble of bribing government officials, and, in general, how to make extraordinary profits without having to make extraordinary products.” As he noted, while they praised General Motors for its credit card strategy, which offered discounts to those who used it, Toyota, which did not bother with a credit card, was building better cars and eating into the market share of General Motors.
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John Rockefeller did not appear in the index to Porter's
Competitive Strategy
. He might have found the language and concepts unfamiliar but as one ready to try every trick in the book to position Standard Oil, the broad thrust of the argument would have been well understood. The management strategists of the late twentieth century were operating in an environment shaped significantly by the great trusts of the nineteenth century and
the progressive movement's attempts to deal with them. The logic of any attempt to tame markets was to make life difficult for at least some competitors. While the first wave of management strategists ignored this issue, because they were dealing with firms that were in secure positions or close to the limits of their legal growth, this was not the case with the second wave, which—as exemplified by Porter—did not so much embrace competition as seek ways to subdue and circumvent it. The third wave embraced competition with enthusiasm.