Case Summary and the Narrative Format: The case summary is supposed to be on the Real time case assigned for the unit. In Uni

Strategy Formulation

Chapter Outline 9-1 Strengths and Weaknesses

9-2 Human Resources

9-2a Board of Directors

9-2b Top Management

9-2c Middle Management, Supervisors, and Employees

9-3 Organizational Resources

9-4 Physical Resources

9-5 Opportunities and Threats

9-6 The SW/OT Matrix

9-7 Issues in Strategy Formulation

9-7a Evaluating Strategic Change

9-7b Social Responsibility and Managerial Ethics

9-7c Effects on Organizational Resources

9-7d Anticipated Responses from Competitors and Customers

9-8 Summary

Key Terms

Review Questions and Exercises

Practice Quiz

Notes

Reading 9-1

9

26061_09_ch09_p199-218.indd 19926061_09_ch09_p199-218.indd 199 1/10/08 7:12:15 PM1/10/08 7:12:15 PM

9781111219802, Strategic Management: Theory and Practice, John Parnell – © Cengage Learning

W I L L I S , K A S S A N D R A 2 1 6 1 T S

200 Chapter 9

A fter a fi rm’s external and internal environments have been analyzed, it is necessary to review its stated mission and goals to ensure that they are compatible with the fi rm’s internal characteristics and its external envi- ronment. Reconsidering the fi rm’s current strategic initiatives is the fi rst

step in evaluating its activities and thinking about what the fi rm should be doing. After the fi rm’s mission and ongoing strategic directions are well understood,

the organization can begin to craft a strategy. The fi rst step in this process, a SWOT (strengths, weaknesses, opportunities, and threats) analysis, enables the fi rm to position itself to take advantage of select opportunities in the environ- ment while avoiding or minimizing environmental threats.1 In doing so, the organization attempts to emphasize its strengths and moderate the potential negative consequences of its weaknesses. Sometimes referred to as TOWS, the SWOT analysis also helps uncover strengths that have not yet been fully utilized and identify weaknesses that can be corrected. Matching information about the environment with knowledge of the organization’s capabilities enables manage- ment to formulate realistic strategies for attaining its goals.2

9-1 Strengths and Weaknesses The fi rst two elements of the SWOT analysis—strengths and weaknesses—represent internal fi rm attributes. In addition, a fi rm’s strengths and weaknesses are consid- ered relative to key competitors in its industry. In other words, customer loyalty would be viewed as a strength or weakness for an organization if it is believed to be greater in that fi rm than in most others in the industry. Hence, strengths can be viewed as artifacts of past success in an organization, whereas weaknesses can be seen as gaps between an organization’s current position and the industry norm. As an extension of this logic, the notion of gap analysis seeks to identify the distance between a fi rm’s current position and its desired position with regard to an internal weakness. When possible, a fi rm should take action to close the gap, especially when the gap leaves a fi rm vulnerable to external threats in its environment.

The value chain is a useful tool for analyzing a fi rm’s strengths and weaknesses and understanding how they might translate into competitive advantage or dis- advantage. The value chain describes the activities that comprise the economic performance and capabilities of the fi rm. Specifi cally, the value chain identifi es primary activities (i.e., those directly related to the fi rm’s product or service) and support activities (i.e., those that assist the primary activities) which create value for customers. As such, the value chain is a conceptual foundation for assessing fi rm strengths and weaknesses.

By considering all of the fi rm’s processes from the procurement of raw materials to the delivery of a fi nal product or service, strategic managers can identify dis- crete activities performed along the way that may add exceptional value to the end product or detract from it.3 For example, in March 2002, after a gradual decline in travel agency commissions throughout the industry, Delta Airlines announced an end to most of the commissions it pays to travel agents. With Delta’s ability to trim sales costs through direct selling, the airline no longer believed that domestic travel agents were adding suffi cient value to justify the expense. As is often true with such moves in the airline industry, most other major airlines followed suit.4

Firm resources—both tangible and intangible—ultimately constitute the fi rm’s strengths and weaknesses.5 Merely possessing a resource, however, does not always result in any tangible benefi t to the organization. Resources are trans- lated into desired results by strategic capabilities, the mechanism through which individuals in an organization coordinate efforts along one or more resources to

SWOT Analysis

An analysis intended to match the fi rm’s

strengths and weak- nesses (the S and

W in the acronym) with the opportuni-

ties and threats (the O and T ) posed by the

environment.

Gap Analysis

Identifying the distance between a fi rm’s cur-

rent position and its desired position with regard to an internal weakness. All things

equal, it is desirable to take action to close a

gap, especially when it leaves a fi rm vulnerable to external threats in its

environment.

Value Chain

A useful tool for analyz- ing a fi rm’s strengths and weaknesses and

understanding how they might translate into

competitive advantage or disadvantage. The

value chain describes the activities that com-

prise the economic performance and capa-

bilities of the fi rm.

Strategic Capabilities

The mechanism through which individuals in an

organization coordinate efforts along one or

more resources to solve a particular problem.

26061_09_ch09_p199-218.indd 20026061_09_ch09_p199-218.indd 200 1/10/08 11:16:02 AM1/10/08 11:16:02 AM

9781111219802, Strategic Management: Theory and Practice, John Parnell – © Cengage Learning

W I L L I S , K A S S A N D R A 2 1 6 1 T S

Strategy Formulation 201

solve a particular problem. Although resources and capabilities are sometimes used interchangeably, the distinction between the two is an important one.6

The three broad categories of fi rm resources are as follows: • Human resources: the experience, capabilities, knowledge, skills, and judgment of all

the fi rm’s employees

• Organizational resources: the fi rm’s systems and processes, including its strategies at various levels, structure, and culture

• Physical resources: plant and equipment, geographic locations, access to raw materi- als, distribution network, and technology

In an optimal setting, all three types of resources work together to provide the fi rm with a competitive advantage that can be sustained. According to the resource-based perspective discussed in Chapter 1, a fi rm must utilize resources that are long lasting and not easily acquired by rivals through imitation, transfer, or replication if it is to sustain competitive advantage. When a fi rm’s strategic suc- cess is dependent on resources that can readily be acquired by competitors, that success is likely to be temporary. A consideration of an organization’s strengths and weaknesses is a means of objectively assessing its resource base.

9-2 Human Resources The most attractive organizational and physical resources are useless without a competent workforce of managers and employees. A fi rm’s human resources can be examined at three levels: (1) the board of directors, (2) top management, and (3) middle management, supervisors, and employees.

9-2a Board of Directors Because board members are becoming increasingly involved in corporate affairs, they can materially infl uence the fi rm’s effectiveness. In examining their strengths and weaknesses, one should consider the following issues. 1. Prospective contributions of corporate board members. Strong board members pos-

sess considerable experience, knowledge, and judgment, as well as valuable outside political connections.

2. Tenure (experience) as members of the corporate board. Long-term stability ena- bles board members to gain organizational knowledge, but some turnover is benefi cial because new members often bring a fresh perspective to strategic issues.

3. Connection to the fi rm (i.e., internal or external) and ability to represent various stakeholders. Although it is common for several top managers to be board members, a disproportionate representation of them diminishes the identity of the board as a group apart from top management. Ideally, board members should represent diverse stakeholders, including minorities, creditors, customers, and the local community. A diverse board membership can contribute to the health of the fi rm.

4. Present level of investment in the fi rm. Signifi cant stock ownership may increase the board’s responsiveness to shareholders, while signifi cant bond holdings may heighten its concern for creditworthiness and result in a risk-averse posture on strategic issues.

9-2b Top Management Three issues should be considered relative to the strengths and weaknesses of any fi rm’s top management. 1. Backgrounds and capabilities of top managers. Comprehending their strengths and

weaknesses in experience, managerial style, decision-making capability, and team building is useful. Although having executives who possess an intimate knowledge of Source: Ablestock.com

26061_09_ch09_p199-218.indd 20126061_09_ch09_p199-218.indd 201 1/10/08 11:16:03 AM1/10/08 11:16:03 AM

9781111219802, Strategic Management: Theory and Practice, John Parnell – © Cengage Learning

W I L L I S , K A S S A N D R A 2 1 6 1 T S

202 Chapter 9

the fi rm and its industry can be advantageous, managers from diverse and comple- mentary backgrounds may generate innovative strategic ideas. In addition, an organi- zation’s management needs may change as the fi rm grows and matures. Because fi rms are often started by innovative entrepreneurs who happen to be poor administra- tors, they often add key administrators to the top management team, which includes the group of top-level executives—headed by the CEO—all of whom play instrumental roles in the strategic management process.

2. Tenure (experience) as members of top management. Although lengthy tenure can mean consistent and stable strategy development and implementation, low turnover may breed conformity, complacency, and a failure to explore new opportunities. CEO turnover is even desirable when the fi rm is unable to meet its performance targets.

3. Strengths and weaknesses of individual top managers. Some executives may excel in strategy formulation, for instance, but be weak in implementation. Some may spend considerable time on internal stakeholders and operations, whereas others may con- centrate on external constituents. As with the board of directors, it is helpful for board members to possess complementary skills to function well as a team. In addition, sev- eral large companies offer fi nancial incentives to sign and retain top executives with knowledge critical to the fi rm.

9-2c Middle Management, Supervisors, and Employees Even the best strategies will fail without a talented workforce to implement them. A fi rm’s personnel and their knowledge, abilities, commitment, and perfor- mance tend to refl ect the fi rm’s HR programs. These factors can be explored by considering fi ve key issues. 1. Existence of a comprehensive HR planning program. Developing such a program

requires that the fi rm forecast its personnel needs, including types of positions and requisite qualifi cations, for the next several years based on its strategic plan.

2. Strategically relevant knowledge or expertise possessed by members of the fi rm. Many fi rms place a great emphasis on retaining high-quality individuals in critical areas such as R&D or sales. This is a vital issue when a fi rm is heavily involved in global competition. Interestingly, all companies claim to have the best workforce, but clearly this is not always the case.

3. Emphasis on training and development. Some fi rms view training and development as a strategic issue and seek long-term benefi ts from its training programs. In contrast, other fi rms view training as a short-term necessity and emphasize cost minimization in their programs.

4. Turnover. High turnover relative to levels among close competitors generally refl ects personnel problems such as poor management–employee relations, low compensa- tion or benefi ts, or low job satisfaction due to other causes.

5. Emphasis on effective performance appraisal (PA). Progressive fi rms utilize PA to provide accurate feedback to managers and employees, link rewards to actual performance, and show managers and employees how to improve performance, as well as comply with all equal employment opportunity requirements. Firms that do not adequately appraise high performers—and reward them—are more likely to lose them.

9-3 Organizational Resources The alignment between organizational resources and business strategy is critical for long-term success. Researchers have utilized the term dynamic capabilities to refer to the set of specifi c and identifi able processes controlled by an organiza- tion, such as product development and strategic decision making.7 In this regard, seven key issues are noteworthy.

26061_09_ch09_p199-218.indd 20226061_09_ch09_p199-218.indd 202 1/10/08 11:16:09 AM1/10/08 11:16:09 AM

9781111219802, Strategic Management: Theory and Practice, John Parnell – © Cengage Learning

W I L L I S , K A S S A N D R A 2 1 6 1 T S

Strategy Formulation 203

1. Consistency among corporate, business, and functional strategies. To facilitate strategy integration, managers at the corporate, business unit, and functional level should be represented at each level of strategic planning. The strategy at each level should infl uence and be infl uenced by the strategy at the other levels.

2. Consistency between organizational strategies and the fi rm’s mission and goals. The mission, goals, and strategies must be compatible and integrated to refl ect a clear sense of identity and purpose for the organization.

3. Consistency between the fi rm’s strategies and its culture. For a strategy to be effec- tive, it must be supported by an organizational culture that emphasizes values that support it.

4. Consistency between the fi rm’s strategies and its structure. It is important to note any structural changes that might be required should the organization seek to imple- ment a major change in strategy.

5. Position in the industry. All things equal, fi rms that possess strong market positions are in a better position to implement strategic changes than those in weak positions. For fi rms operating globally, this assessment must be made in the various nations in which the fi rm operates.

6. Product and service quality. It is important to comprehend how quality levels of the fi rm’s products and services compare with those of rival fi rms.

7. Reputation of the fi rm and/or brand. Many fi rms have established reputations for fac- tors such as high quality and customer service. A 2004 Financial Times global survey identifi ed strength in brands such as General Electric, Microsoft, Toyota, IBM, and Wal- Mart. In contrast, little confi dence was placed on scandal-ridden fi rms such as Enron, Parmalat, and WorldCom.8

9-4 Physical Resources Physical resources can differ considerably from one organization to another, even among close competitors. For example, Amazon.com requires different physical plants than a software consulting fi rm. Nonetheless, fi ve issues concerning the strengths and weaknesses of physical resources should be considered.

1. Currency of technology. All things equal, competitors with superior technology and the ability to use it have a decided competitive advantage in the marketplace. This is especially true in global markets and should be assessed in each of the nations in which the fi rm operates.

2. Quality and sophistication of distribution network. Distribution networks apply to both manufacturing and service concerns. The American Airlines domination of passenger gates at Dallas–Fort Worth Airport and Delta’s similar control in Atlanta give both of these service companies a competitive advantage.

3. Production capacity. A continual backlog of orders may indicate a growing market acceptance of a fi rm’s product, or it may depict serious problems associated with insuffi cient capacity. Capacity may be expanded by increasing production shifts or obtaining additional facilities, but such measures can be costly.

4. Reliable access to cost-effective sources of supplies. Suppliers who are unreliable, lack effective quality control programs, or cannot control their costs well do not foster a competitive advantage for the buying fi rm.

5. Favorable location(s). Ideally, the organization should be located where skilled labor, suppliers, and customers are readily accessible.

The unique combination of a fi rm’s human, organizational, and physical resources—as transformed into capabilities—should be emphasized in its strategy. As the fi rm acquires additional resources, unique synergies occur between its new and existing resources. Because each fi rm possesses its own distinct

26061_09_ch09_p199-218.indd 20326061_09_ch09_p199-218.indd 203 1/10/08 11:16:10 AM1/10/08 11:16:10 AM

9781111219802, Strategic Management: Theory and Practice, John Parnell – © Cengage Learning

W I L L I S , K A S S A N D R A 2 1 6 1 T S

204 Chapter 9

combination of resources, the particular types of synergies that occur will differ from one fi rm to another. Leveraging these synergies into sustained competitive advantages is a key task of top management (see Case Analysis 9-1).

9-5 Opportunities and Threats The last two elements of the SWOT analysis—opportunities and threats—are asso- ciated with factors outside the organization. As such, they emerge from the earlier analyses of the industry and the macroenvironment (i.e., political-legal, economic, social, and technological forces). Although an industry-level analysis may identify general factors, this stage moves to the fi rm level and considers how the external forces could affect the organization under consideration. For example, an analysis

Case Analysis 9-1

Step 16: What Strengths Exist for the Organization? Step 17: What Weaknesses Exist for the Organization? Although resources and strategic capabilities are the foundation for a fi rm’s strengths and weaknesses, it is not necessary to discuss the transition from resources to strengths and weaknesses in this section. Rather, the organization’s strengths and weaknesses should be listed, each with as much depth and justifi cation as possible. Many possible organizational strengths and weaknesses can emanate from its resource base, includ- ing but not limited to the following:

1. Advertising

2. Brand names

3. Channel management

4. Company reputation

5. Computer information system

6. Control systems

7. Costs

8. Customer loyalty

9. Decision making

10. Distribution

11. Economies of scale

12. Environmental scanning

13. Financial resources

14. Forecasting

15. Government lobbying

16. Human resources

17. Inventory management

18. Internet presence

To set the stage for the remainder of the analysis, it is important to state clearly how each strength has helped the organization and how each weakness has hindered it. In many instances, the strengths are the primary catalysts for the organization’s successes, and its weaknesses are the main reasons why it has failed in certain endeavors.

19. Labor relations

20. Leadership

21. Location

22. Management

23. Manufacturing and operations

24. Market share

25. Organizational structure

26. Physical facilities and equipment

27. Product/service differentiation

28. Product/service quality

29. Promotion

30. Public relations

31. Purchasing

32. Quality control

33. Research and development

34. Sales

35. Technology and patents

26061_09_ch09_p199-218.indd 20426061_09_ch09_p199-218.indd 204 1/10/08 11:16:10 AM1/10/08 11:16:10 AM

9781111219802, Strategic Management: Theory and Practice, John Parnell – © Cengage Learning

W I L L I S , K A S S A N D R A 2 1 6 1 T S

Strategy Formulation 205

of the social forces affecting investment houses may identify consumer acceptance of the Internet as a social force affecting the industry. Considering online broker Ameritrade, this force may be translated into both opportunities (e.g., a growing market of potential online investors who are still utilizing traditional brokers) and threats (e.g., intense competition from the myriad of Internet sources that may erode the loyalty of current customers to Ameritrade offerings).

External opportunities and threats must not be confused with internal strengths and weaknesses. Factors associated with the fi rm such as a poor fi nancial position, an ineffective marketing strategy, or a strong brand image are internal factors and therefore must be classifi ed as strengths or weaknesses. In contrast, factors outside the fi rm such as demographic changes, competitive threats, or recent legislation are external factors and therefore must be classifi ed as opportunities or threats. At the international level, certain external factors should be considered as pro- spective opportunities and threats, including the cyclical or seasonal nature of the industry in which the fi rm operates and the intensity of global competition.

It is also critical to distinguish between opportunities and alternatives, although the distinction can sometimes appear to be one of semantics. Opportunities rep- resent the application of macroenvironmental forces to a specifi c organization. Alternatives emanate from the SW/OT matrix (discussed in section 9-6) and rep- resent specifi c courses of action that the organization may choose to pursue. The two are related but must be differentiated. For example, increasing societal interest in Cajun food may present an opportunity for a restaurant. When consid- ered relative to internal factors (via the SW/OT matrix) such as the company’s existing locations in Louisiana and its strong reputation for innovative cuisine, this opportunity may lead to an alternative for the company to consider, such as introducing a new line of Cajun offerings (see Case Analysis 9-2).

Case Analysis 9-2

Step 18: What Opportunities Exist for the Organization? Step 19: What Threats Exist for the Organization? In the SWOT analysis, one must not only identify strengths and weaknesses, but also translate the analysis of the macroenvironment and industry into opportunities and threats. Although these issues were addressed at the industry level earlier in the analysis, they should be integrated into a discussion that highlights specifi cally how they present opportunities to or threaten the organization. For example, if it was previously noted that the industry rises and falls abruptly with economic conditions, then the prospects of a recession may pose a major threat for the fi rm. If it was noted that technological advances have not yet been incorporated into production processes in the industry, then application of this technology may become an opportunity worth considering for the organization.

There is no set target for the number of strengths, weaknesses, opportunities, or threats that should be identifi ed. When only several of each are identifi ed, however, it is likely that the analysis is superfi cial and does not address key issues. When the list becomes too long—as would be the case if all thirty-fi ve of the items listed in Case Analysis 9-1 were associated with strengths and weaknesses—the list becomes cum- bersome to manage in the remaining steps of the analysis. In this situation, it is neces- sary to consider pooling several items into one when feasible. For example, “expertise in advertising” and “a strong sales force” could be merged into “marketing expertise.”

26061_09_ch09_p199-218.indd 20526061_09_ch09_p199-218.indd 205 1/10/08 11:16:10 AM1/10/08 11:16:10 AM

9781111219802, Strategic Management: Theory and Practice, John Parnell – © Cengage Learning

W I L L I S , K A S S A N D R A 2 1 6 1 T S

206 Chapter 9

9-6 The SW/OT Matrix After the SWOT analysis is completed, alternative courses of action may be ana- lyzed by creating a SW/OT matrix.9 The SW/OT matrix extends the SWOT analysis by using it as a tool for generating strategic alternatives for the fi rm. A matrix is created with strengths and weaknesses listed vertically on the left side and opportunities and threats listed across the top. Alternatives emerge from the combination of one or more strengths/weaknesses from the left side of the matrix with one or more opportunities/threats from the top. For example, a company that can develop and produce high-quality electronic products in a short time—a strength—could take advantage of an increased consumer inter- est in portable DVD players—an opportunity—by developing and marketing one, a strategic alternative. This does not mean that the company should nec- essarily pursue such a strategy, but merely that the alternative warrants further consideration. The SW/OT matrix is a systematic means of developing strategic alternatives available to the organization, but it requires brainstorming and cre- ative skills as well. The SW/OT matrix helps top managers position a fi rm in its environment so that it leverages its strengths while minimizing the detrimental effects of its weaknesses.

In general, four categories of alternatives emerge from the SW/OT matrix, each representing the combination of one or more strengths or weaknesses with one or more opportunities or threats. 1. Strength–Opportunity. These “offensive” alternatives tend to be the most common

and involve utilizing an organizational strength to address an opportunity.

2. Weakness–Threat. These “defensive” alternatives involve taking corrective action to eliminate or minimize a weakness so as to minimize the effect of a threat.

3. Strength–Threat. These alternatives involve utilizing a strength to eliminate or minimize the effect of a threat and may be offensive or defensive.

4. Weakness–Opportunity. These alternatives involve shoring up a weakness so that the organization can take advantage of an opportunity and may be offensive or defensive.

Typically, most of the individual internal-external combinations (i.e., matches between strengths/weaknesses and opportunities/threats) will not produce viable alternatives. Further, several different combinations of internal and exter- nal factors can produce the same alternative. Some of the alternatives that emerge might be eliminated from further consideration for obvious reasons (e.g., taking the action would be illegal). In addition, a given SW/OT matrix might generate a large number of alternatives in a particular category, whereas only a few may be generated in other categories. Once generated, strategic alternatives should be analyzed further.

Figure 9-1 provides a simplifi ed example of a SW/OT matrix for McDonald’s. Assume that the SWOT analysis for McDonald’s identifi ed strengths of fi nancial stability, brand recognition, and a strong ability to produce consistent products throughout the world. Two weaknesses were identifi ed as well: inconsistent fi nan- cial performance in international markets and a heavy dependence on fried foods. The two key opportunities were economic growth in emerging economies and the increasing health consciousness of the U.S. population. Two threats were highlighted as well: the possible mandates that will raise employment costs in the United States and the increasing popularity of easy-to-prepare microwaveable foods. A thorough SWOT analysis for McDonald’s would develop many more than two or three factors in each category and might even challenge the oversim- plifi cation of the factors identifi ed in this example. Nonetheless, the number and

SW/OT Matrix

A tool for generating alternative courses of

action by identifying relevant combinations

of internal characteris- tics (i.e., strengths and

weaknesses) and exter- nal forces (i.e., opportu-

nities and threats).

26061_09_ch09_p199-218.indd 20626061_09_ch09_p199-218.indd 206 1/10/08 11:16:11 AM1/10/08 11:16:11 AM

9781111219802, Strategic Management: Theory and Practice, John Parnell – © Cengage Learning

W I L L I S , K A S S A N D R A 2 1 6 1 T S

Strategy Formulation 207

complexity of the factors are kept to a minimum so that the process of develop- ing alternatives can be clearly illustrated.

Following the example, three possible alternative courses of action can be identifi ed for further consideration. First, McDonald’s could emphasize its fi nancial and brand strengths and seize an emerging market opportunity by expanding aggressively into growing economies such as China and Mexico. …