TYPES OF STRATEGIES
Objectives:
This handout brings strategic management to life with many contemporary examples.
Strategies are defined and exemplified.Guidelines are presented for determining
when different types of strategies are most appropriate to pursue.
Ansoff pointed out that a diversification strategy stands apart from the other three strategies. The first
three strategies are usually pursued with the same technical, financial, and merchandising resources
used for the original product line, whereas diversification usually requires a company to acquire new
skills, new techniques and new facilities.
Note: The notion of diversification depends on the subjective interpretation of “new” market and “new”
product, which should reflect the perceptions of customers rather than managers. Indeed, products tend to
create or stimulate new markets; new markets promote product innovation.
DIVERSIFICATION STRATEGIES
There are three general types of diversification strategies: concentric, horizontal, and conglomerate. Over
all, diversification strategies are becoming less popular as organizations are finding it more difficult to
manage
diverse business activities. In
be dependent on
the 1960s and 1970s, the trend was to diversify so
as not to
any single industry, but the 1980s saw a general reversal of that thinking.
Diversification is now on the retreat.
Concentric Diversification
Adding new, but related, products or services
Adding new, but related, products
this
strategy is
or services is widely called concentric diversification. An example of
AT&T recently spending $120 billion acquiring cable television companies in order to
wire America with fast Internet service over cable rather than telephone lines.
Guidelines for Concentric Diversification
Five guidelines when concentric diversification may be an effective strategy are provided below:
1. Competes in no- or slow-growth industry.
2. Adding new & related products increases sales of current products.
3. New & related products offered at competitive prices.
4. Current products are in decline stage of the product life cycle
5. Strong management team
Conglomerate Diversification
Adding new, unrelated products or services
Adding new, unrelated products or services is called conglomerate diversification. Some firms pursue
conglomerate diversification based in part on
an
expectation
of profits from breaking
up acquired firms and selling divisions piecemeal.
Guidelines for Conglomerate Diversification
Four guidelines when conglomerate diversification may be an effective strategy are provided below:
1. Declining annual sales and profits
2. Capital and managerial talent to compete successfully in a new industry
3. Financial synergy between the acquired and acquiring firms
4. Existing markets for present products are saturated
Horizontal Diversification
Adding new, unrelated products or services for present customers is called horizontal diversification. This
strategy is not as risky as conglomerate diversification because a firm already should be familiar with its
present customers.
Guidelines for Horizontal Diversification
Four guidelines when horizontal diversification may be an especially effective strategy are:
1. Revenues from current products/services would increase significantly
by
the new unrelated products.
2. Highly competitive and/or no-growth industry w/low margins and returns.
3. Present distribution channels can be used to market new products to current customers.
4. New products have counter cyclical sales patterns compared to existing products.
adding
NOTE II on DIVERSIFICATION WITH EXAMPLES:
Diversification
Strategy
Concentric
Diversification
Product
Technology
Market
New
Related
New Market
Horizontal
Diversification
New
Unrelated
Same Market
Conglomerate
Diversification
New
Unrelated
New Market
Diversification usually requires a company to acquire new skills, new techniques and new facilities.
Note: The notion of diversification depends on the subjective interpretation of “new” market and “new”
product, which should reflect the perceptions of customers rather than managers. Indeed, products tend to
create or stimulate new markets; new markets promote product innovation.
Concentric Diversification Examples:
1) A company that manufactures industrial adhesives might decide to diversify into adhesives to
be sold via retailers. The technology would be the same but the marketing effort would need
to change. It also seems to increase its market share to launch a new product which helps the
particular company to earn profit.
Horizontal Diversification Examples:
1) A company was making note books earlier now they are also entering into pen market
through its new product.
2) Avon's move to market jewelry through its door-to-door sales force involved marketing new
products through existing channels of distribution. An alternative form of that Avon has also
undertaken is selling its products by mail order (e.g., clothing, plastic products) and through retail
stores (e.g., Tiffany's). In both cases, Avon is still at the retail stage of the production process.
3) A car dealer may start offering financial services by developing a car leasing scheme and selling
cars through leasing.
Conglomerate Diversification
1) Virgin Media moved from music producing to travels and mobile phones
2) Walt Disney moved from producing animated movies to theme parks and vacation properties.
3) Canon diversified from a camera-making company into producing whole new range of office
equipment.
DEFENSIVE STRATEGIES
In addition to
integrative,
intensive, and diversification strategies, organizations also could pursue
retrenchment, divestiture, or liquidation.
Retrenchment
Retrenchment occurs when an organization regroups through cost and asset reduction to reverse declining
sales and profits. Sometimes called a turnaround or reorganization strategy, retrenchment
is designed tofortify an organization's basic distinctive competence. During retrenchment, strategists work
with limited
resources and face pressure from shareholders, employees, and the media. Retrenchment can entail selling
off land and buildings to raise needed cash, pruning product lines, closing marginal businesees, closing
obsolete factories, automating processes, reducing the number of employees, and instituting expense
control systems.
Guidelines for Retrenchment
Five guidelines when retrenchment may be an especially effective strategy to pursue are as follows:
1. Firm has failed to meet its objectives and goals consistently over time but has distinctive compete
ncies
2. Firm is one of the weaker competitors
3. Inefficiency, low profitability, poor employee morale and pressure from stockholders to improve
performance.
4. When an organization's strategic managers have failed
5. Very quick growth to large organization where a major internal reorganization is needed
6. When an organization has grown so large so quickly that major internal reorganization is needed
PORTER GENERIC STRATEGIES
Michael Porter has described a category scheme consisting of three general types of strategies that are
commonly used by businesses to achieve and maintain competitive advantage. These three generic
strategies are defined along two dimensions: strategic scope and strategic strength. Strategic scope is a
demand-side dimension (Michael E. Porter was originally an engineer, then an economist before he
specialized in strategy) and looks at the size and composition of the market you intend to target. Strategic
strength is a supply-side dimension and looks at the strength or core competency of the firm. In particular
he identified two competencies that he felt were most important: product differentiation and product cost
(efficiency).
He originally ranked each of the three dimensions (level of differentiation, relative product cost, and
scope of target market) as either low, medium, or high, and juxtaposed them in a three dimensional
matrix. That is, the category scheme was displayed as a 3 by 3 by 3 cube. But most of the 27
combinations were not viable.
Also called Focus
Strategy
Porter's Generic Strategies
In his 1980 classic Competitive Strategy: Techniques for Analysing Industries and Competitors, Porter
simplifies the scheme by reducing it down to the three best strategies. They are cost leadership,
differentiation, and market segmentation (or focus). Market segmentation is narrow in scope while both
cost leadership and differentiation are relatively broad in market scope.
Empirical research on the profit impact of marketing strategy indicated that firms with a high market
share were often quite profitable, but so were many firms with low market share. The least profitable
firms were those with moderate market share. This was sometimes referred to as the hole in the middle
problem. Porter’s explanation of this is that firms with high market share were successful because they
pursued a cost leadership strategy and firms with low market share were successful because they used
market segmentation to focus on a small but profitable market niche. Firms in the middle were less
profitable because they did not have a viable generic strategy.
Porter suggested combining multiple strategies is successful in only one case. Combining a market
segmentation strategy with a product differentiation strategy was seen as an effective way of matching a
firm’s product strategy (supply side) to the characteristics of your target market segments (demand side).
But combinations like cost leadership with product differentiation were seen as hard (but not impossible)
to implement due to the potential for conflict between cost minimization and the additional cost of valueadded differentiation.
Since that time, empirical research has indicated companies pursuing both differentiation and low-cost
strategies may be more successful than companies pursuing only one strategy.
Some commentators have made a distinction between cost leadership, that is, low cost strategies, and best
cost strategies. They claim that a low cost strategy is rarely able to provide a sustainable competitive
advantage. In most cases firms end up in price wars. Instead, they claim a best cost strategy is preferred.
This involves providing the best value for a relatively low price.
Cost Leadership Strategy
This strategy involves the firm winning market share by appealing to cost-conscious or price-sensitive
customers. This is achieved by having the lowest prices in the target market segment, or at least the
lowest price to value ratio (price compared to what customers receive). To succeed at offering the lowest
price while still achieving profitability and a high return on investment, the firm must be able to operate at
a lower cost than its rivals. There are three main ways to achieve this.
The first approach is achieving a high asset turnover. In service industries, this may mean for example a
restaurant that turns tables around very quickly, or an airline that turns around flights very fast. In
manufacturing, it will involve production of high volumes of output. These approaches mean fixed costs
are spread over a larger number of units of the product or service, resulting in a lower unit cost, i.e. the
firm hopes to take advantage of economies of scale and experience curve effects. For industrial firms,
mass production becomes both a strategy and an end in itself. Higher levels of output both require and
result in high market share, and create an entry barrier to potential competitors, who may be unable to
achieve the scale necessary to match the firm’s low costs and prices.
The second dimension is achieving low direct and indirect operating costs. This is achieved by offering
high volumes of standardized products, offering basic no-frills products and limiting customization and
personalization of service. Production costs are kept low by using fewer components, using standard
components, and limiting the number of models produced to ensure larger production runs. Overheads are
kept low by paying low wages, locating premises in low rent areas, establishing a cost-conscious culture,
etc. Maintaining this strategy requires a continuous search for cost reductions in all aspects of the
business. This will include outsourcing, controlling production costs, increasing asset capacity utilization,
and minimizing other costs including distribution, R&D and advertising. The associated distribution
strategy is to obtain the most extensive distribution possible. Promotional strategy often involves trying to
make a virtue out of low cost product features.
The third dimension is control over the supply/procurement chain to ensure low costs. This could be
achieved by bulk buying to enjoy quantity discounts, squeezing suppliers on price, instituting competitive
bidding for contracts, working with vendors to keep inventories low using methods such as Just-in-Time
purchasing or Vendor-Managed Inventory. Wal-Mart is famous for squeezing its suppliers to ensure low
prices for its goods. Dell Computer initially achieved market share by keeping inventories low and only
building computers to order. Other procurement advantages could come from preferential access to raw
materials, or backward integration.
Some writers assume that cost leadership strategies are only viable for large firms with the opportunity to
enjoy economies of scale and large production volumes. However, this takes a limited industrial view of
strategy. Small businesses can also be cost leaders if they enjoy any advantages conducive to low costs.
For example, a local restaurant in a low rent location can attract price-sensitive customers if it offers a
limited menu, rapid table turnover and employs staff on minimum wage. Innovation of products or
processes may also enable a startup or small company to offer a cheaper product or service where
incumbents' costs and prices have become too high. An example is the success of low-cost budget airlines
who despite having fewer planes than the major airlines, were able to achieve market share growth by
offering cheap, no-frills services at prices much cheaper than those of the larger incumbents.
A cost leadership strategy may have the disadvantage of lower customer loyalty, as price-sensitive
customers will switch once a lower-priced substitute is available. A reputation as a cost leader may also
result in a reputation for low quality, which may make it difficult for a firm to rebrand itself or its
products if it chooses to shift to a differentiation strategy in future.
Differentiation Strategy
Differentiate the products in some way in order to compete successfully. Examples of the successful use
of a differentiation strategy are Hero Honda, Asian Paints, HLL, Nike athletic shoes, Perstorp Bio
Products, Apple Computer, and Mercedes-Benz automobiles.
A differentiation strategy is appropriate where the target customer segment is not price-sensitive, the
market is competitive or saturated, customers have very specific needs which are possibly under-served,
and the firm has unique resources and capabilities which enable it to satisfy these needs in ways that are
difficult to copy. These could include patents or other Intellectual Property (IP), unique technical
expertise (e.g. Apple's design skills or Pixar's animation prowess), talented personnel (e.g. a sports team's
star players or a brokerage firm's star traders), or innovative processes. Successful brand management
also results in perceived uniqueness even when the physical product is the same as competitors. This way,
Chiquita was able to brand bananas, Starbucks could brand coffee, and Nike could brand sneakers.
Fashion brands rely heavily on this form of image differentiation.
Focus or Strategic Scope
This dimension is not a separate strategy per se, but describes the scope over which the company should
compete based on cost leadership or differentiation. The firm can choose to compete in the mass market
(like Wal-Mart) with a broad scope, or in a defined, focused market segment with a narrow scope. In
either case, the basis of competition will still be either cost leadership or differentiation.
In adopting a narrow focus, the company ideally focuses on a few target markets (also called a
segmentation strategy or niche strategy). These should be distinct groups with specialized needs. The
choice of offering low prices or differentiated products/services should depend on the needs of the
selected segment and the resources and capabilities of the firm. It is hoped that by focusing your
marketing efforts on one or two narrow market segments and tailoring your marketing mix to these
specialized markets, you can better meet the needs of that target market. The firm typically looks to gain a
competitive advantage through product innovation and/or brand marketing rather than efficiency. It is
most suitable for relatively small firms but can be used by any company. A focused strategy should target
market segments that are less vulnerable to substitutes or where a competition is weakest to earn aboveaverage return on investment.
Examples of firm using a focus strategy include Southwest Airlines, which provides short-haul point-topoint flights in contrast to the hub-and-spoke model of mainstream carriers, and Family Dollar.
In adopting a broad focus scope, the principle is the same: the firm must ascertain the needs and wants of
the mass market, and compete either on price (low cost) or differentiation (quality, brand and
customization) depending on its resources and capabilities. Wal Mart has a broad scope and adopts a cost
leadership strategy in the mass market. Pixar also targets the mass market with its movies, but adopts a
differentiation strategy, using its unique capabilities in story-telling and animation to produce signature
animated movies that are hard to copy, and for which customers are willing to pay to see and own. Apple
also targets the mass market with its iPhone and iPod products, but combines this broad scope with a
differentiation strategy based on design, branding and user experience that enables it to charge a price
premium due to the perceived unavailability of close substitutes.