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February 27, 2020 - January 1, 2021
the only way to know if you are achieving the ultimate goal of creating economic value is to be brutally honest about the true profits you’ve earned and all the capital you’ve committed to the business.
Just to keep our terminology straight, for Porter strategy always means “competitive strategy” within a business. The business unit, and not the company overall, is the core level of strategy.
Corporate strategy refers to the business logic of a multiple-business company.
(I once calculated, for example, that consumers were effectively paying well over $100 an hour for the unskilled labor involved in grating cheese.)
For Porter, then, differentiation refers to the ability to charge a higher relative price. My advice here: Don’t get hung up on the language, as long as you don’t get sloppy about the underlying distinction.
superior performance resulting from sustainably higher prices, lower costs, or both.
the managerially relevant sources of competitive advantage—the things that managers can control.
Activities are discrete economic functions or processes, such as managing a supply chain, operating a sales force, developing products, or delivering them to the customer.
An activity is usually a mix of people, technology, fixed assets, sometimes working capital, and various types of information.
The sequence of activities your company performs to design, produce, sell, deliver, and support its products is called the value chain. In turn, your value chain is part of a larger value system.
The value chain is a powerful tool for disaggregating a company into its strategically relevant activities in order to focus on the sources of competitive advantage, that is, the specific activities that result in higher prices or lower costs (or, if your organization is a nonprofit, the activities that result in higher value for those you serve or lower costs in serving them).
Compare the value chains of rivals in an industry to understand differences in prices and costs
How far upstream do the industry’s activities extend? Does the industry do basic research? Does it design and develop its products? Does it manufacture? What key inputs does it rely on? Where do they come from? How does the typical player in the industry market, sell, distribute, deliver? Is financing or after-sales service a part of the value the industry creates for customers?
Zero in on price drivers, those activities that have a high current or potential impact on differentiation.
Zero in on cost drivers, paying special attention to activities that represent a large or growing percentage of costs.
Your relative cost position (RCP) is built up from the cumulative cost of performing all the activities in the value chain. Are there actual or potential differences between your cost structure and those of your rivals?
It demands both creativity and rigorous analysis. The easier path is simply to accept the industry’s conventional wisdom.
In the United States, from 1992 to 2006, the average company earned about 14.9 percent return on equity (earnings before interest and taxes divided by average invested capital less excess cash), although this varied somewhat over the business cycle. Are the returns for your business better or worse? If better, something is working in your favor. If worse, then something is wrong. In either case, dig deeper into the underlying causes.
Until a company understands where its profit performance comes from, it will be ill equipped to deal with it strategically.
You begin to see each activity not just as a cost, but as a step that has to add some increment of value to the finished product or service.
Managing across boundaries, whether these are between the company and its customers or the company and its suppliers or business partners, can be as important for strategy as managing within one’s own company.
Although managers often talk about how their organization’s skills or capabilities create value, activities are where the rubber meets the road.
A company can be better at performing the same configuration of activities, or it can choose a different configuration of activities.
But simply improving operational effectiveness does not provide a robust competitive advantage because rarely are “best practice” advantages sustainable.
The inevitable diffusion of best practices means that everyone has to run faster just to stay in place.
Popular metrics such as shareholder value, return on sales, growth, and market share are misleading for strategy. The goal of strategy is to earn superior returns on the resources you deploy, and that is best measured by return on invested capital.
If you have a competitive advantage, it will show up on your P&L.
Porter’s definition of strategy is normative, not descriptive. That is, it distinguishes a good strategy from a bad one. His focus is on content, not process. His focus is on where you want to be, not on the decision-making process by which you got there—not how, or even whether, you do formal strategic planning, nor whether your strategy can be captured in fifty words or less.
FIGURE 4-1 The value proposition answers three questions
It is not that Enterprise is the best car rental company. Nor is the market it serves inherently better. But starting with the specific need it serves, Enterprise has made a different choice about the value proposition triangle. Enterprise’s customer base would confound traditional market segmentation by demographic characteristics.
Some value propositions target customers who are overserved (and hence overpriced) by other offerings in the industry.
A company can win these customers by eliminating unnecessary costs and meeting “just enough” of their needs.
The first test of a strategy is whether your value proposition is different from your rivals. If you are trying to serve the same customers and meet the same needs and sell at the same relative price, then by Porter’s definition, you don’t have a strategy.
The first test of a strategy is whether your value proposition is different from your rivals.
A distinctive value proposition, Porter explains, will not translate into a meaningful strategy unless the best set of activities to deliver it is different from the activities performed by rivals. His logic is simple and compelling: “If that were not the case, every competitor could meet those same needs, and there would be nothing unique or valuable about the positioning.”
The essence of strategy and competitive advantage lies in the activities, in choosing to perform activities differently or to perform different activities from those of rivals. Each
Aravind has made cataract surgery affordable by applying the core design elements that Ford used to make cars affordable for the masses: standardization of activities, specialization of labor and equipment, and a high-volume production line that never stops.
Focus refers to the breadth or narrowness of the customers and needs a company serves. Differentiation allows a company to command a premium price. Cost leadership allows it to compete by offering a low relative price. These broad characterizations of strategy types capture the fundamental dimensions of strategic choice relevant in any industry.
At the same time, Porter described a common strategic mistake, which came to be known as getting stuck in the middle. This happens when a company tries to be all things to all customers and is outflanked by cost leaders on one side, who meet “just enough” of their customers’ needs, and by differentiators on the other side, who do a better job of satisfying customers who “want more” (of some particular attribute they value).
Choices in the value proposition that limit what a company will do are essential to strategy because they create the opportunity to tailor activities in a way that best delivers that kind of value.
If the same value chain can deliver different value propositions equally well, then those value propositions have no strategic relevance.
there is one important takeaway message, it is that strategy requires choice.
Robust strategies typically incorporate multiple trade-offs. The very best have trade-offs at almost every step in the value chain.
If you have a strategy, you should be able to link it directly to your P&L.
A logistical system geared to deliver once per hour is not the best one to deliver once per week. And so on. Trade-offs like these have economic consequences. If an activity is either overdesigned or underdesigned for its use, value will be destroyed.
There you are dealing with a false trade-off, one that should be broken. In general, false trade-offs arise when organizations fall behind in operational effectiveness—that is, when they lag in how well they perform basic activities, the kind of activities that are generic and not strategy specific.
When managers focus on execution, on making sure that they are “best practice” when it comes to generic activities, then eliminating trade-offs can be a good thing. When it comes to strategy, however, trade-offs are essential in making what you do unique.
Porter calls what McDonald’s tried to do straddling, and it is the most common form of competitive imitation. The straddler, as the word implies, tries to match the benefits of the successful position while at the same time maintaining its existing position. In other words, a straddler tries to have it all, to get the best of two worlds by grafting new features, services, or technologies onto the activities it already performs. Strategy is an either-or realm; the straddler thinks it can escape into a world of both-and. This usually turns out to be wishful thinking.
Trade-offs are choices that make strategies sustainable because they are not easy to match or to neutralize.
Trade-offs make choices about what not to do as important as choices of what to do.
