How to Do a Strategic Analysis

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How to Do a Strategic Analysis
Dr. Stan Abraham Summer 2008
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What Is Strategic Analysis?

• One persons or one groups attempt at arriving
  at a strategy and key strategic decisions for a
  company
• For example, vision statement, objectives, and
  key programs
• An essential precursor to strategic planning

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Why Do It?

• To gain strategic-planning skills
• To integrate functional business courses you have
  taken to-date
• To be able to help companies or organizations
  decide their future
• To do a better job of running your own business
  one day

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The Essential Questions

• Whats the current situation?
• Where do we want to go?
• How can we get there?

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1. Whats the Current Situation?

• Whats changing in our industry, markets,
  competitors, the economy, and other areas that
  may affect us?
• Where are the opportunities?
• How have we been performing and what financial
  condition are we in?
• What strengths, resources, weaknesses, and
  competitive advantages do we have, or lack?

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2. Where Do We Want to Go? This involves
strategic thinking

• What are all the possible and feasible directions
  we could take?
• Which opportunities could we pursue?
• What alternative business models make sense?
• Which is the best alternative?
• Why is it the best one?

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3. How can we get there? And how fast should we
get there?

• What vision and strategy should we pursue?
• What objectives should we set?
• For the next year and three years hence?
• What programs should we implement?
• What contingencies can we devise in case things
  go wrong?

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What Is Strategy?

• Strategy is how a company actually competes
• The best strategy is embedded in a business model
  that both provides customer value and gives the
  organization a sustainable competitive advantage
• Know what these terms mean?

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Strategic Planning vs. Strategic Management
Book Figure 1.1
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A Strategic Analysis Model that works! (SAMtw)
Recommendations
Situation Analysis
Alternatives Analysis
External Review Industry Analysis Competitive
Analysis Market Analysis Environmental Analysis
Short-Term Plans Goals ObjectivesStrategic
IntentPrograms Contingencies
Strategic Issues
Identifying Strategic Alternatives
Internal Review Financial Analysis Strengths
Weaknesses Opportunities Threats
Long-Term Plans Goals ObjectivesStrategic
Intent Programs Contingencies
Arguing For and Choosing a Preferred Strategy
1. What is thecurrent situation?
2. Where do wewant to go?
3. How can weget there?
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Industry and Competitive Analysis

• Dominant economic
  characteristics
• Industry driving forces
• Sources of competitive threat
• Porters 5-forces model
• Competitive positioning of major rivals
• Critical success factors
• Competitive strength analysis
• Industry attractiveness

Situation Analysis
External
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Dominant Economic Characteristics Example
Industry for a chemical commodity

• Industry Size
• 500 million sales 4 million tons total volume
• Scope of Competitive Rivalry
• Primarily regional producers rarely sell outside
  a 250-mile radius of plant due to high cost of
  shipping long distances
• Industry Growth Rate
• 2-3 percent annually
• Stage in Lifecycle
• Mature
• Number of Competitors
• About 30 companies with 110 plant locations and
  capacity of 4.5 million tons. Market shares range
  from 3-21 percent
• Customers
• About 2,000 buyers most are industrial chemical
  firms

External
Situation Analysis
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Dominant Economic Characteristics (2)

• Degree of Vertical Integration
• Mixed. Five of the ten largest firms are
  integrated backward into mining operations and
  also forward in that sister industrial chemical
  divisions buy over 50 of their plant output all
  other firms are engaged solely in manufacturing
• Ease of Entry/Exit
• Moderate entry barriers exist it costs 10
  million to construct a new plant of minimum
  efficient size and a new entrant must build a
  customer base within 250 miles from the plant
• Technology/Innovation
• Production technology is standard and slow to
  change. Biggest changes are occurring in
  products--about 1-2 newly formulated specialty
  chemical products introduced annually, accounting
  for nearly all the industry growth

External
Situation Analysis
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Dominant Economic Characteristics (3)

• Product Characteristics
• Highly standardized and commodity-like
• Scale Economies
• Moderate. All firms have virtually equal
  manufacturing costs, but scale economies exist in
  shipping in multiple carloads to the same
  customer and in purchasing large quantities of
  raw materials
• Capacity Utilization
• Efficiency is highest when producing between
  90-100 of rated plant capacity. Unit costs rise
  appreciably when utilization drops below 90
• Industry Profitability
• Subpar to average. The commodity nature of the
  product results in intense price-cutting when
  demand slackens, but prices firm up during
  periods of strong demand. Profits thus track the
  strength of demand for the industrys products

Situation Analysis
External
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Industry Driving Forces

• Changes in the industry growth rate
• Changes in who buys the product and how they use
  it
• Product or marketing innovation
• Technological change
• Entry or exit of major firms
• Diffusion of technical know-how
• Increasing globalization of the industry
• Changes in cost and efficiency
• Emerging buyer preferences for differentiation
• Regulatory influences and government policy
  changes
• Changing societal concerns, attitudes, lifestyles

External
Situation Analysis
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Industry Lifecycle Curve

• TotalIndustry Sales
• Shake-out
• Emerging Growth Maturity
  Decline

Time
Situation Analysis
External
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Industry Lifecycle Curve (2)

• 
  Shake-out Stage
• Supply Demand Competitors leave the(max.
  slope) arena or are acquired (Supply gt
  Demand)
• Competitors enter the arena (Supply lt
  Demand)

Situation Analysis
External
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Concentrated vs. Fragmented Industries

• Concentrated when most of the industrys sales
  are accounted for by only a few firms
• The Big Four accounting firms audit 96 of
  public companies in the U.S.
• Only three firms make jet engines for the worlds
  commercial aircraft only two make the aircraft
• Fragmented when no company has more than a
  one-percent share of the market
• Beauty salons Bookkeepers
• Plumbers Cement-mixing companies

Situation Analysis
External
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The Value ChainExample Wool Suits

• Breeding Raw
  Cloth Cloth Sheep on
  Wool Mill Wholesaler
  Tailor Retailer Farm
  Wholesaler Dyer
  Final Customer

Vertical Integration
Backwards Forwards
Situation Analysis
External
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Sources of CompetitionPorters 5-Forces Model of
Competitive Threats

• Potential New Entrants
• Barriers to Entry
• Suppliers Rivals
  Buyers Substitutes

Intensity of Rivalry?
Barriers to Entry?
Bargaining Power(a) of buyers?(b) of suppliers?
Threat of Substitutes?
External
Situation Analysis
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Strategic Group Map

• A two-dimensionaldiagram with axesthat separate
  out rivalsin an industry
• Plot competitors onthe diagram
• Group ones that areclose to each other onthe
  map they are saidto belong to
  similarstrategic groups
• Often, circles around thegroups represent
  combinedsales of companies in them

Very broad
Breadth ofproduct line
narrow
domestic
international
Geographic scope
External
Situation Analysis
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Critical-Success-Factor Analysis

• A critical success factor (CSF) is something a
  company must do well in order to succeed in the
  industry.
• Example XYZ Industry
• Competitors
• Critical Success Factor Co. A
  B C D E
• Engine technology 8 9
  9 7 6 10
• Styling and features 9 8
  9 8 7 9
• Brand reputation 10 8
  9 7 6 9
• Strong distribution/dealer network 7
  8 9 6 7 10
• Efficient manufacturing
  6 8 8 7 8
  9
• Effective marketing
  9 8 9 8 7
  9

External
Situation Analysis
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Assessing Industry Attractiveness

• Example XYZ industry
• Industry Factor Weight
  Rating Product
• Sales growth rate 25 0.3 7.5
• Market size 20 0.6 12.0
• Industry profitability 18 0.8 14.4
• Intensity of competition 15 0.7 10.5
• Barriers to entry 12 0.9 10.8
• Degree regulated 10 1.0 10.0
  ----- ---- ------ TOTALS
  100 65.2

External
Situation Analysis
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Assessing Competitive Strength

• Example Your Company Under Analysis
• Competitive Factor Weight
  Rating Product
• Technological innovativeness 22 0.6 13.2
• Marketing/distribution 20 0.9 18.0
• Caliber of management 18 0.9 16.2
• Relative cost position 17 0.6 10.2
• Brand reputation 12 1.0 12.0
• Financial strength 11 0.7 7.7
  ----- ------ TOTALS
  100 77.3

Situation Analysis
External
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G. E. Matrix
High
IndustryAttractiveness
Invest
Your Company
Medium
Divest
Low
Weak
Avg.
Strong
Competitive Strength
Situation Analysis
External
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Market and Customer Analysis Covered
in your Marketing course . . .

• Identify the target market/segment
• Identify customer needs (present and future)
• Identify principal market segments
• How does the customer buy (channels)?
• What are the channel markups?
• Extent to which customer responds to advertising
  and promotion, and which media
• How price-sensitive is the customer?

External
Situation Analysis
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Environmental Analysis Categories to Scan
Continually

• Demographic changes -- regional population
  shifts, birth rates, age cohorts, etc.
• Impending regulatory/legislative changes --
  healthcare reform, tax bills, etc.
• Political changes (esp. at election time) -- tax
  changes, party platforms, etc.
• Lifestyle/attitude trends -- fitness, disease
  prevention, seeking adventure, etc.
• Sociocultural trends -- consumer activism,
  greater tolerance of diversity, etc.
• Current economic climate and trends -- extended
  recession, devaluation, etc.
• Technological advances -- industry federal
  spending on RD, new patents, etc.
• All the above, for each foreign country in which
  the company does business.
• Ask, What changes/trends affect my company
  either negatively or positively? The larger the
  potential impact, the more specific data are
  needed about the trend/change.

Situation Analysis
External
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Phase Coverage in Class
Recommendations
Situation Analysis
Alternatives Analysis
I
External Review Industry Analysis Competitive
Analysis Market Analysis Environmental Analysis
Short-Term Plans Goals ObjectivesStrategic
IntentPrograms Contingencies
Strategic Issues
III
IV
Identifying Strategic Alternatives
Internal Review Financial Analysis Strengths
Weaknesses Opportunities Threats
II
Long-Term Plans Goals ObjectivesStrategic
Intent Programs Contingencies
Arguing For and Choosing a Preferred Strategy
1. What is thecurrent situation?
2. Where do wewant to go?
3. How can weget there?
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Scope of Phase 1

• The group that does Phase 1 on a particular case
  goes only as far as this point
• Phase 1 involves an external analysis of the
  industry, competition, market, and environment
• Includes four tools
• Porters Five-Forces Model
• G.E. Matrix (including Industry Attractiveness
  vs. Competitive Strength)
• CSF Analysis
• Strategic Group Map

External
Situation Analysis
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Financial Analysis

• SAM does all the work for you after you have
  inputted income-statement and balance-sheet data
  for the given years
• You have to select which kinds of financial data
  to present in order to give a reasonable and
  complete picture of the companys recent
  performance and current financial condition
• You end the presentation with a financial
  conclusion slide
• Use data from the previous charts shown to
  support your conclusion

Internal
Situation Analysis
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Financial Charts

• Begin with revenues and NIAT
• Show breakdowns of revenues or profits (by
  product line or geographical region), if
  available
• Should include current or quick ratio (not both),
  D/E or D/A ratio (not both), and Z- or Z2-Score
  (not both)
• In addition, especially for a smaller company
• Does it have enough cash?
• Are its receivables climbing?
• Does it have too much invested in inventory?
• Where D/A ratio gt 100, show that equity is
  negative
• Any other aspect that is worth pointing out

Situation Analysis
Internal
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Altmans Z- and Z2-Scores
Z-score 1.2X1 1.4X2 3.3X3 0.6X4 1.0X5
Z2-score 6.5X1 3.26X2 6.72X3 1.05X4a
X1 WC/Total assets X2 RE/Total assets X3
EBIT/Total assets X4 Equity/Total debt X5
Sales/Total assets
Safe Zone
2.99
2.59
Gray Area
1.81
1.11
Bankrupt Zone
ManufacturingCompanies
Non-ManufacturingCompanies
Z-Score
Z2-Score
Internal
Situation Analysis
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Financial Conclusion

• The last sheet of the financial analysis part in
  SAMtw asks you to draw one of the following five
  conclusions about the company
• Has been well managed and performing well, and is
  in good financial condition
• Same as above except for one major bad thing . .
  .
• Has had mixed results, indeterminate
• Same as below except for one major good thing . .
  .
• Has been poorly managed, is performing poorly,
  may be in serious trouble, should be bankrupt,
  etc.
• And support your conclusions with numbers!

Internal
Situation Analysis
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Financial Conclusion Example
Harley-Davidson (1988)

• H-D has been performing very well and is
  financially in good condition
• Motorcycle revenues grew an average 23.5/yr from
  1986-88 in a declining industry
• NIAT grew 12.7 in 1988
• NPM almost doubled from 1.7 in 1986 to 3.2 in
  1988
• D/E ratio declined 54.5 from 5.5 in 1987 to 2.3
  in 1988
• It has 52.3M in cash in 1988
• Z-Score improved to 3.07 (safe zone) in 1988

Set off the conclusion in a different font and
color to stand out. Summarize thesupporting data
in the order you showed the charts. Cite
statistics.
Internal
Situation Analysis
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Company Strengths

• Core competencies Cost advantages
• financial strengths Better advertising campaigns
• Reputation with buyers Product innovation skills
• Well-conceived programs Proven management
• Access to economies of scale Ahead on the
  experience curve
• Protected from competition Efficient
  manufacturing
• Proprietary technology Superior technology skills
• Financial analysis of recent company performance
  and condition is also a key component of Internal
  Company Analysis, and may reveal some strengths
  and weaknesses.
• Dont use generic strengths (as above), but be
  specific.Market leadership or increasing market
  share are never strengths.

Internal
Situation Analysis
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Company Weaknesses

• No clear strategic direction Falling behind in
  RD
• Obsolete facilities Product line too narrow
• Sub-par profitability because . . . Weak market
  image
• Little or no managerial depth/talent Weak
  distribution network
• Missing key skills/competencies Weak marketing
  skills
• Poor implementation record Unable to finance
  strategies
• Internal operating problems High relative costs
• Poor product quality Worsening customer service
• Deteriorating union relations Slow development of
  new products

Same notes as for Strengths slide
Internal
Situation Analysis
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Core Competence and Competitive Advantage
Remember to add acolumn for capabilitiesat
left-hand side.

• Criteria for Core Competence
• Is the Is the Is the Is thecapability capabili
  ty capability capabilityvaluable? Rare? costly
  to nonsubsti- Competitive Performance imitate?
  tutable? Consequences Implications
• No No No No Competitive Below-average disad
  vantage returns
• Yes No No Yes/No Competitive Average parity
  returns
• Yes Yes No Yes/No Temporary Average
  advantage returns
• Yes Yes Yes Yes Sustainable Above-average a
  dvantage returns

Internal
Situation Analysis
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Opportunities (Concentration strategies)
Existing
Product Development
Markets
Only Product/Market Issues are Opportunities
Expanded
Market Development
New
Existing
Improved
New
Products
Internal
Situation Analysis
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Threats

• Entry of low-cost foreign competitors
• Adverse shifts in foreign exchange rates and
  trade policies
• Slower market growth
• Adverse demographic changes
• Costly regulatory requirements
• Impending economic downturn
• Growing bargaining power of buyers and suppliers
• Changing buyer needs and tastes
• Rising sales of substitute products
• Legislation with adverse impact

Situation Analysis
Internal
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TOWS Matrix
Situation Analysis
Internal
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Scope of Phase 2

• The group that does Phase 2 on a particular case
  goes only as far as this point
• Phase 2 involves an internal analysis of the
  company, including financial-analysis charts, a
  financial conclusion, and a SWOT analysis
• Includes four tools
• Core-Competence Analysis
• The TOWS Matrix
• Value Analysis (not shown here)
• SPACE Analysis (not shown here)

Internal
Situation Analysis
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Key Strategic Issues

• A key strategic issue is a
• Future event or trend that may have a significant
  impact on the firm (e.g., deregulation of an
  industry, fate of the NAFTA trade agreement) and
  that should be closely monitored
• Decision the firm is considering making that will
  have a strategic and dramatic impact on it (e.g.,
  merging with another company, changing its
  strategy, focusing on international operations)
• Any strategic plan must address these strategic
  issues for the simple reason that they constitute
  the most important problems and issues the
  company faces

Alternatives Analysis
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Sources of Strategic Issues

• Most critical external issues
• Competition
• Industry trends
• Market trends
• Other trends and threats
• Most salient internal issues Strategic
• Financial problems Issues
• Weaknesses
• Opportunities worth considering

Alternatives Analysis
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Menu of Possible Strategies

• Staying in the same business
• Concentration Product or market development
• Vertical Integration Forward or backward
• Acquisition of or merger with a competitor
• Harvest or be acquired
• Retrenchment and Turnaround (including Bankruptcy
  Chapters 11, 13)
• Low-cost leadership, differentiation, or focus
• Strategic alliances, including joint ventures
• Exiting the business
• Liquidation (including Bankruptcy Chapter 7)
• Entering another business
• Diversification through acquisition related or
  unrelated business
• Internal diversification

Alternatives Analysis
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Porters Generic Competitive Strategies
Competitive Advantage
Lower Cost Differentiation
Cost Leadership
Differen-tiation
Broad Target
Competitive Scope
Focused Differen-tiation
Cost Focus
Narrow Target
Source Michael E. Porter, Competitive
Advantage, Free Press, 1985
Alternatives Analysis
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Low-Cost Leadership and Differentiation How
They Work

• Low-Cost Leadership Differentiation
• 
  P
• P P
• C C
• C
• Internal emphasis External emphasis
• Focus on cost drivers Focus on customer
  needs
• Dont lower prices Dont let
  costs rise

Alternatives Analysis
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Coming up with Strategic Alternatives

• The most difficult part of strategic planning
• Requires a lot of thought and creativity
• The challenge is to devise 2-4 alternatives
  (bundles)
• The minimum is two
• More than four is practically impossible
• Must meet four criteria
• Mutually exclusive (i.e., doing one means not
  being able to do the others)
• Feasible (i.e., doable and internally consistent)
• Lead to success (as defined by the company)
• Address all strategic issues (or delete the ones
  not addressed)

Alternatives Analysis
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Strategic Alternative Bundles Example
Harley-Davidson (1988)

• 1Expand 2Broaden 3Expand
  the Market the Product Line into Europe
• Focus on older males Introduce three new Expand
  into Europe women models
• Design models to Acquire Buell and Trade shows
  and appeal to this market offer sport bike 100
  roving bikers
• Train dealers to Develop technolog. Create
  dealer network sell to this market advanced
  engine from scratch
• Invest in and grow Maintain HR but Maintain HR
  but HR sales improve its sales improve its sales
• Heavy advertising Heavy advertising Heavy
  advertising promo campaign promo campaign
  promo campaign
• Incr. prod. capacity Incr. prod. capacity
  Incr. prod. capacity maintain high
  quality maintain high quality maintain high
  quality
• Increase market share Increase market
  share Maintain U.S. share
• Finance thru debt cash Finance thru
  debt cash Finance thru debt cash

Alternatives Analysis
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Choose the Best Alternative

• Argue for which one is better or best
• hard to do when all are equally good
• The choice depends on how each alternative stacks
  up against selected criteria
• Managers that will implement the strategy must be
  involved in deciding which alternative to pursue

Alternatives Analysis
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Criteria for Choosing a Successful Strategy

• Shareholder ValueOften used as the measure of
  the effectiveness of strategic planning
• RevenuesParticularly appropriate when the firm
  wants to increase market share
• ProfitabilityImportant when earnings or cash
  flow have been flat or negative, or when the firm
  is highly leveraged
• Investment RequiredDoes the firm have, or can it
  acquire, the resources it needs? Does it make
  sense to be acquired?
• Degree of RiskHow certain is the firm to succeed
  if it undertakes this alternative? Is it
  risk-averse?

Alternatives Analysis
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Criteria for Choosing a Successful Strategy
(cont.)

• Return on investmentROI is another profitability
  measure
• Breakeven pointThe sooner the investment is
  recouped the better
• Match with existing company cultureWhile it may
  be better to choose an alternative that does not
  require changing the culture, the culture may
  have to change to take advantage of a better
  alternative
• Attainment of a core competence or competitive
  advantage This is the secret of being
  competitive and attaining above-industry-average
  profits

Alternatives Analysis
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Criteria for Choosing a Successful Strategy
(cont.)

• TimingIs the timing right to implement a
  particular alternative? Is it better to implement
  now or later?
• Strengthening its value propositionthe key to
  developing a revenue stream and loyal customers
• Strengthening bargaining powerincreasing
  bargaining power with either buyers or suppliers
  will likely increase profits

Alternatives Analysis
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Two Types of Criterion
(Rate from 0 to 10)
(Rate from 0 to 10)

• Positively Correlated
• Revenues
• Profits
• Return on investment
• Shareholder value
• Gaining or extending a competitive advantage
• Strengthening its value proposition
• Strengthening bargaining power

• Negatively Correlated
• Investment required
• Time to breakeven
• Competitive retaliation
• Culture change required
• Riskiness

Alternatives Analysis
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Criteria MatrixExample for Harley-Davidson (1988)
Alternatives Analysis
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Scope of Phase 3

• Phase 3 ends at this point
• The group will continually work at improving its
  list of strategic issues and bundles in class as
  Phases 1 and 2 are unfolding
• It will then present its strategic issues and
  bundles for class discussion
• We all understand its a work in process
• Strive for understanding, not perfection
• Include a criteria matrix at the end with your
  choice of a preferred bundle
• For Case 3 onwards, go all the way and include
  Phase 4Recommendations

Alternatives Analysis
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Recommendations Format for Short- and
Long-Term Plans

• Should include
• Specific measurable objectives to be achieved
  next year and in three years time
• At least Revenues and NIAT
• Perhaps one other that is important (optional)
• Strategic Intent
• Major programs to implement that will achieve the
  set objectives and implement the strategy
• Trigger and contingency pairs -- what could go
  wrong (trigger) and what would the firm do
  differently if that happened (contingency)?

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Triggers and Contingencies Criteria to meet

• Triggers
• Must be quantitatively expressed
• The cause should be external
• Contingencies
• Must address (alleviate) the trigger
• Cannot renege on the chosen strategy
• Must be something different from what the company
  is currently doing
• Must be operational and implementable quickly
  (perhaps within 1-3 months)

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The Vision Statement What Do We Aspire to Be?

• Typically created for five or ten years out
• Can include numbers (objectives) or not
• Typically created by the organizations leader
  (sometimes by the top team)
• Must be sold to the rest of the organization
• Must be realistic (possible to attain) and hence
  worth striving for
• Must know when it has been achieved

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The Mission Statement How Should We Do
Business? Our Raison D'être

• Should encompass the companys current business
  and future strategy
• Should include its value proposition (products or
  services offered to which target market)
• Should include what makes the company special
• How it creates value in order to win and keep its
  customers business

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Creating Vision/Mission Statements

• One of the most challenging tasks
  leaders/managers undertake
• Most dont do it wellthey consider it time
  wasted
• Many are unable to think clearly enough and get
  too frustrated
• If you cannot do it, you dont know your business
  well enough
• Leaders must get the commitment of the whole
  organization to the vision/mission statements
• Key people should participate in its preparation
• Should not be revised for several years, or until
  it no longer fits what the company is doing

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When to Create Them?

• After doing a strategic analysis
• Because the strategy and direction of the company
  may change
• Because you have been able to check whether the
  existing vision and mission statements need
  changing
• Otherwise, the vision and mission statements
  essentially govern what the company does (or
  doesnt do) next

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Thats it, folks!

• The whole process will come to life as you start
  to do the strategic analyses yourselves