Matt’s Musings

Overview

Over the course of history, technology has repeatedly been leveraged by waring countries and companies to gain advantage in conflict, be it on the battlefield or in the marketplace.  However, technology for technology’s sake is not always useful.  Rather, technology has to be applied to the correct problems at the right times to actually be of value.  It is at the intersection of the allocation of scarce resources and application of technology to gain advantage where strategy becomes important.

Strategy can be defined as a discipline that includes analysis of present environmental and situational conditions and the prediction of future conditions based on existing data points and trends.  That information is then used to allocate scarce resources to best accomplish some goal, be it a battlefield victory or dominance in a sector within the technology market.  This paper will explore each component of strategy, providing both military and technology industry examples to illustrate points and provide clarification where necessary.  Finally, matrix management and best practices for implementing a new strategy will be outlined.

Understanding Existing Conditions

Before determining a future strategic position for any industry or nation, one must first have a complete understanding of present conditions.  Sun Tzu tells us, “If you know the enemy and know yourself, you need not fear the result of a hundred battles.  If you know yourself but not the enemy, for every victory gained you will also suffer a defeat.  If you know neither the enemy nor yourself, you will succumb to defeat in every battle…”.  In Sun Tzu’s book, The Art of War, the author was specifically addressing military strategy.  However, the same principles apply when examining any industry before trying to determine a strategic position.

One of the major underpinnings of strategic theory is the idea of attacking weakness versus attacking strength.  For example, let’s consider two generals each in command of a force of one hundred soldiers.  The first general is positioned on (and defending) a hill whereas the second general intends to take that hill for some strategic value.  On level ground and with a frontal assault, both sides would sustain heavy losses and quite possibly stalemate, leaving both sides vulnerable to attack from a third party.  However, the second general could use strategic theory to gather information about the terrain and understand the position of the first general.  With that information, a plan could be devised to lead out the first general’s forces with a decoy and then attack a weaker position.  However, without first understanding all of the factors involved in the environment and position of the existing force, determining the best approach would not be possible.

Michael Porter has identified five competitive forces that shape industry:

• Bargaining power of suppliers
• Threat of new entrants
• Bargaining power of buyers
• Threat of substitute products or services
• Rivalry among existing competitors

To understand an industry, one must first define the members of each of the groups outlined in the bullet points above.  Once the members are identified, the forces that they exert within an industry can be defined.  Suppliers are considered powerful if they can charge high enough prices for their components to significantly limit profit for the competitors.  This most often occurs if the suppliers are selling something that has limited substitutes or if the supplier group does not depend heavily on the industry for its revenues.  Conversely, buyers are considered powerful if there are many substitute products available, if there are limited numbers of buyers and purchase size is large (thereby concentrating bargaining power), or if the cost to switch to a new vendor is low.  The threat of new entrants is considered high if the barriers to entry into a given industry are low.  Barriers to entry include supply side economy of scale (advantages to producing many units), high customer switching costs, capital requirements (money needed to loan for a startup investment bank), unequal access to distribution channels, and restrictive government policy.  Substitute products include those products that allow a potential customer to accomplish the same results by a different means.  For example, VPN and video conferencing can be considered a substitute for traveling and commuting.

Rivalry among existing competitors deserves some special consideration in that it often devolves into a race to the bottom by way of competing solely on the basis of operational efficiency.  Operational efficiency is important in that it eliminates wasteful spending and improves processes such that the net profit per activity performed or unit produced is raised.  While the increase in efficiency creates net gains in the short term, over the long term, the efficiencies are often copied by competitors resulting in a zero sum gain.  The relative wash and long term decrease in profit margin is caused by the productivity frontier.  Porter defines the productivity frontier as the sum of all existing best practices at a given time.  As a company increases its OE, it approaches the frontier.  However, the frontier continually moves outward as available technology increases.  As such, profit margin will erode over time if operational efficiency is the only dimension in which a company competes.

Strategic Theory

Strategic theory has its roots steeped in military history and practice, where its application (or lack thereof) had the potential to affect the rise and fall of nations.  There are four components needed for a strategy to be successful:

• Understanding of the current situation
• A correct guess as to future events
• Strategic move
• Place
• Timing

As we have already explored existing conditions and estimation of future conditions is speculative in nature and based on a grand picture of a particular industry, we will focus on how a strategic move is affected by timing and location.  Strategy deals will the allocation of scarce resources.  Therefore, a strategic move deals with the redistribution of scarce resources to accomplish some strategic goal and improve overall strategic position.  Implicit in this is time and location.  During the 90s, several dot com companies attempted to do content delivery and failed.  The cause of failure was two fold:

1. The audience was not there yet
2. The bandwidth available at the time made the delivery itself problematic

Time (the 90s) and location (in this case – the Internet) were both significant factors.  Today, we have content delivery packages like Steam and the iPhone (iTunes) that effectively follow the same business model of the failed dot coms, but do so at a time when the audience is available and the location is ready (bandwidth is ubiquitous).  Conversely, moving too late creates a different set of problems.  Namely, the market will already be saturated by existing competitors and the new entrant will face barriers to entry such as switching cost and uneven access to distribution channels.  Apple Computer and the iPod/iTunes combination illustrate this point perfectly.  Apple choose to enter the music distribution industry at just the right time and as a substitute product to CD sales.  The delivery technology was ready (broadband) and they established their own distribution mechanism (iTunes) and player (iPod) that worked together seamlessly.  By allocating capital resources to marketing and creating a brand image, the iPod grew in popularity which in turn drove iTunes adoption.  Apple created a great set of complementary products that had excellent fit.  Microsoft arrived to the market late with a competitive product (the Zune) and a competitive distribution system (the Zune Marketplace).  In doing so, Microsoft has made two mistakes:

1. They are attempting to attack Apple directly
2. They waited two long to enter the market

Since Microsoft arrived late and iPod use is pervasive, the barrier to entry is high.  Rather than trying to offer a substitute product, Microsoft is attempting to compete directly which is eliciting a competitive response from Apple, which, in turn, will further increase the cost in resources that Microsoft will have to absorb.  Additionally, Apple continued to innovate by entering the mobile phone market and creating an entire new platform and set of applications that can be delivered by its existing content management system.  Microsoft will be relegated to expending scarce resources for minimal gains unless they find a way to either alter the industry in some meaningful way or differentiate themselves as something other than an iPod clone maker.

In Napoleon’s early battles, the general was known for splitting larger enemy forces and allocating his own resources carefully in order to secure victory.  An interesting IT parallel to this is seen in how Microsoft attacked Netscape during the 1990s.  Again, Microsoft was late to the battlefield and had allowed Netscape to achieve control of the market.  However, in this case, Microsoft took advantage of the following strategic principles:

1. Divide and conquer
2. Use your enemy’s resources against them
3. Attack the flank

Netscape made money both through sales of their web browser and sales of their web server.  While Netscape was building a new industry and expending their own resources doing it, Microsoft sat back and watched.  When they decided to compete, they first attempted head on competition by selling both their browser and web server software.  This approach was not successful so a new one was devised:  Microsoft bundled their browser for free with their operating system and only sold the web server.  During this time, Netscape was still selling both their browser and server.  As each new Windows system shipped with a browser already installed, customers were much less likely to continue purchasing the Netscape alternative and as a result, their market share collapsed.  With their browser share evaporated, sales of their server soon followed suit and the company was forced to sell assets.  By attacking the flank (the web browser), Microsoft was able to win the additional front (the server) without expending any additional resources.

Strategic Positioning

Companies all perform some set of activities that result in the creation of their product or service.  The sum of all of these activities represent the company’s strategic position.  How closely those activities match what their competitors are doing determines whether or not that company is merely emulating the activities their competitors perform or have actually differentiated their position in a meaningful way.

According to Michael Porter, strategic positions emerge from three distinct sources:

• Variety based positioning
• Needs based positioning
• Access based positioning

In variety based positioning, a business positions itself by offering a subset of products within a given industry better than anyone else.  This is best illustrated in a company like Jiffy Lube, which provides oil changing (and some other minor services) for consumer automobiles.  However, no other typical garage services are offered and the services they do offer are streamlined for efficiency and service.

Needs based positioning occurs when a company structures its activities to meet all of the needs of a particular subset of customers.  As stated by Porter, Bessemer Trust, for example, caters to the needs of families with a minimum of $5 million in investable assets who want capital preservation combined with wealth accumulation.  The most common pitfall made by managers is in perceiving differing needs without looking to ensure that the activities needed to meet those needs also differ.  Without that critical component, the strategic position will not be differentiated from others.  As another example, The Mathworks aims to cater to the needs of the hard science and engineering communities by building toolkits to expedite work.

Access based positioning is based upon the idea of segmenting customers based on how those customers are accessed.  For example, ING Direct targets a different segment of banking customers from traditional banks by focusing on on-line, quick and easy access with excellent returns.  Without the overhead of branch offices, better rates can be given and profit margins can be higher.  To further differentiate themselves, ING has recently started opening Internet cafes in large cities where customers can come use a free Internet terminal to check their accounts and browse the web.

Management

Looking throughout history, there are two contrasting decision making models that are applied (with varying amounts of gray in between):

• A structured top down approach
• A distributed management model

A structured top down approach can be characterized by either one individual or a small group of individuals making policy and strategy decisions and passing those decisions with implementation plans down through the ranks of managers and ultimately to the workers.  Conversely, a distributed management model is one in which all individuals are expected to provide leadership, the common goal or strategy is well communicated, excellent communication is present, and individuals are encouraged to innovate.

Genghis Khan was one of the greatest military leaders and conquered vast amounts of territory.  To control his empire, he established a very ridged top down approach.  As his empire grew, he built one of the largest communications networks for the time.  However, as time passed it became harder and harder to exert control from a centralized location and the empire eventually collapsed.  We can contrast this with the Greeks who used a much more distributed city-state model of control (still using an extensive network of roads to provide communications) and grew more prosperous over a longer period of time.

Likewise, companies that follow a structured top down management model will tend to stop innovating over time, something that can only be countered by acquiring smaller companies that have innovated.  For example, Microsoft, in its current incarnation, has effectively stopped innovating several years ago and has relied on purchases such as Hotmail, Visio, and LinkExchange.  Microsoft relied solely on the purchase and integration of Great Plains Software to enter the enterprise software market to compete directly with Oracle and SAP.  Google, on the other hand, follows a distributed management model that encourages individual leadership and as a result has a constant stream of new products and technologies to try.  Some of these products fail while others go on to be great successes.  It follows that Google purchases can be more focused on gaining strategic advantage rather than merely being required to sustain some form of innovation.  For example, Google’s purchase of YouTube was not directly necessary because they already had their own equally functional but less popular Google Video technology.  However, the purchase of YouTube granted Google a significantly larger market share.

As technology advances, it creates more avenues that allow for continued growth, penetration, and effectiveness of the distributed management model.  People not directly working in the field of Information Technology often do not know how to best leverage those advances to improve communication, efficiency, or recognize new opportunity in the marketplace.  The traditional role of IT has been regulated to an entity within the corporation that provides services as required to external business groups such as human resources, accounting, and operations (varying depending on the industry being considered).  A more effective approach is for IT to be involved in a company’s strategic decisions at every level.  To do this, members of IT will need training in strategy as well as the business areas for which they would provide advisement.  The more integrated approach allows the company to have more knowledge about technology on hand during strategic planning and therefore grants the ability to make best use of the available technology to support strategic goals.

On Leadership

Effecting change in any sufficiently large organization is a daunting task that requires patience and an understanding of human nature and organizational goals.  Before implementing any technology driven change, it is best to first summarize the existing corporate environment as it pertains to your goals, including those groups or individuals that may oppose or support the initiative.  It is then necessary to build consensus by first enlisting the help of like minded partners and expanding out from a solid base.  Consensus building should start by building support that recognizes the existing challenges and need for change.

It is human nature to resist change and implementing a new strategy will often meet stiff resistance due to corporate politics.  This is best handled by working in an open manner and from a position of influence rather than one of direct control or authority.  When resistance is encountered, solicit feedback and listen to the concerns of the person or persons that oppose the change.  By asking plenty of questions and showing genuine interest, its often possible to move through the emotional conflict stage and into deriving solid rational reasons and concerns.  Incorporating that feedback will make the overall plan better and often win support from the individual who originally opposed it.  When any conflict arises, it must first be resolved before any change plan progresses, otherwise the change will face significant challenges later in the process.

In traditional top down management structures, teams have a manager that they report to and get direction from with little room for personal growth and innovation. When implementing a more distributed approach, cross functional teams should be established.  Often, these teams have members that report to a different functional managers for HR related purposes, but are coached or guided by a cross functional team lead that advices on a particular project and tracks progress from a project management perspective.

Referenced Works

Porter, Michael E., On Competition, Harvard Business School Publishing Corporation, 2008.

Tzu, Sun, The Art of War