Another commonly held view about industry profitability is that profits are a function of the balance between supply and demand. If demand is greater than supply, this leads to high profitability. Yet, the long-term supply/demand balance is strongly influenced by industry structure, as are the consequences of a supply/demand imbalance for profitability. Hence, even though short-term fluctuations in supply and demand can affect short-term profitability, industry structure underlies long-term profitability. Changes in industry structure can affect the bases on which generic strategies are built and thus alter the balance among them. For example, the advent of electronic controls and new image developing systems has greatly eroded the importance of service as a basis for differentiation in copiers. Structural change creates many of the risks. Chapter 6 discusses competitor selection, or the role of competitors in enhancing competitive advantage and industry structure. The chapter shows why the presence of the right competitors can be beneficial to a firm's competitive position. It describes how to identify "good" competitors and how to influence the array of competitors faced, it also describes how a firm can decide what market share it should hold, an important issue since a very large share is rarely optimal. This success is linked, at least partially, to its use of value chain management. Pellet (53) describes Southwest Airlines as a company that found creative ways to make improvements, with these improvements especially related to reducing the downtime of aircraft, improving scheduling, and making maintenance more efficient. At the same time, Southwest Airlines needed to improve cost-effectiveness so it could offer a lower price to its customers, but still maximize profits. Southwest Airlines based its success on identifying the industry value chain. Reducing cost does not always involve a sacrifice in differentiation. Many firms have discovered ways to reduce cost not only without hurting their differentiation but while actually raising it, by using practices that are both more efficient and effective or employing a different technology. Sometimes dramatic cost savings can be achieved with no impact on differentiation at all if a firm has not concentrated on cost reduction previously. However, cost reduction is not the same as achieving a cost advantage. When faced with capable competitors also striving for cost leadership, a firm will ultimately reach the point where further cost reduction requires a sacrifice in differentiation. It is at this point that the generic strategies become inconsistent and a firm must make a choice.

Chapter 11 describes how interrelationships among business units can actually be achieved. Many organizational impediments stand in the way, ranging from the protection of turf to faulty incentives. The chapter identifies these impediments in detail, and shows how they can be overcome through what I call horizontal organization. Firms competing in related industries must have a horizontal organization that links business units together, that supplements but does not replace the hierarchical organization to manage and control them.

Formulating Technological Strategy...1. Identify all the distinct technologies and subtechnologies in the value chain... 2.Identify potentially relevant technologies in other industries or under scientific development...3.Determine the likely path of change of key technologies...4.Determine which technologies and potential technological changes are most significant for competitive advantage and industry structure...5.Assess a firm's relative capabilities in important technologies and the cost of making improvements.6.Select a technology strategy, encompassing all important technologies, that reinforces the firm's overall competitive strategy." Chapter 8 discusses the determinants of substitution, and how a firm can substitute its product for another or defend against a substitution threat. Substitution, one of the five competitive forces, is driven by the interplay of the relative value of a substitute compared to its cost, switching costs, and the way individual buyers evaluate the economic benefits of substitution. The analysis of substitution is of central importance in finding ways to widen industry boundaries, exposing industry segments that face a lower substitution risk than others, and developing strategies to promote substitution or defend against a substitution threat. Hence understanding substitution is important both to broadening and to narrowing scope. The analysis of substitution draws on Chapters 3 through 7. The consequences of an imbalance between supply and demand for industry profitability also differs widely depending on industry structure. In some industries, a small amount of excess capacity triggers price wars and low profitability. These are industries where there are structural pressures for intense rivalry or powerful buyers. In other industries, periods of excess capacity have relatively little impact on profitability because of favorable structure. In oil tools, ball valves, and many other oil field equipment products, for example, there has been intense price cutting during the recent sharp downturn. In drill bits, however, there has been relatively little discounting. Hughes Tool, Smith International, and Baker International are good competitors (see Chapter 6) operating in a favorable industry structure. Industry structure also determines the profitability of excess demand. In a boom, for example, favorable structure allows firms to reap extraordinary profits, while a poor structure restricts the ability to capitalize on it. The presence of powerful suppliers or the presence of substitutes, for example, can mean that the fruits of a boom pass to others. Thus industry structure is fundamental to both the speed of adjustment of supply to demand and the relationship between capacity utilization and profitability.

The first fundamental determinant of a firm's profitability is industry attractiveness. Competitive strategy must grow out of a sophisticated understanding of the rules of competition that determine an industry's attractiveness. The ultimate aim of competitive strategy is to cope with and, ideally, to change those rules in the firm's favor. In any industry, whether it is domestic or international or produces a product or a service, the rules of competition are embodied in five competitive forces: the entry of new competitors, the threat of substitutes, the bargaining power of buyers, the bargaining power of suppliers, and the rivalry among the existing competitors. Part IV of the book draws on the concepts in this book and Competitive Strategy to develop broad principles for offensive and defensive strategy. Chapter 13 discusses the problem of formulating competitive strategy in the face of significant uncertainty. It describes the concept of industry scenarios, and shows how scenarios can be constructed to illuminate the range of future industry structures that might occur. The chapter then outlines the alternative ways in which a firm can cope with uncertainty in its choice of strategy. Competitive strategy is more effective if there is explicit consideration of the range of industry scenarios that might occur, and recognition of the extent to which strategies for dealing with different scenarios are consistent or inconsistent. The aim is not to improve everything about the organization, but to improve the processes that will allow the organization to gain an advantage on the competition. Porter (39) also identified various generic factors that are part of an organization's value chain. These generic factors are: inbound logistics, operations, outbound logistics, marketing and sales, and service. Porter considered that these five areas add value to a firm. Porter (40) also identified several support factors. These support factors are: infrastructure of the organization, human resource management, technology, and procurement. Both industry attractiveness and competitive position can be shaped by a firm, and this is what makes the choice of competitive strategy both challenging and exciting. While industry attractiveness is partly a reflection of factors over which a firm has little influence, competitive strategy has considerable power to make an industry more or less attractive. At the same time, a firm can clearly improve or erode its position within an industry through its choice of strategy. Competitive strategy, then, not only responds to the environment but also attempts to shape that environment in a firm's favor.There are three conditions under which a firm can simultaneously achieve both cost leadership and differentiation: As part of their strategic planning processes, many diversified firms categorize business units by using a system such as build, hold, or harvest. These categorizations are often used to describe or summarize the strategy of business units. While such categorizations may be useful in thinking about resource allocation in a diversified firm, it is very misleading to mistake them for strategies. A business unit's strategy is the route to competitive advantage that will determine its performance. Build, hold, and harvest are the results of a generic strategy, or recognition of the inability to achieve any generic strategy and hence of the need to harvest. Similarly, acquisition and vertical integration are not strategies but means of achieving them.

These two central questions in competitive strategy have been at the core of my research. My book Competitive Strategy: Techniques for Analyzing Industries and Competitors presents an analytical framework for understanding industries and competitors, and formulating an overall competitive strategy. It describes the five competitive forces that determine the attractiveness of an industry and their underlying causes, as well as how these forces change over time and can be influenced through strategy. It identifies three broad generic strategies for achieving competitive advantage. It also shows how to analyze competitors and to predict and influence their behavior, and how to map competitors into strategic groups and assess the most attractive positions in an industry. It then goes on to apply the framework to a range of important types of industry environments that I term structural settings, including fragmented industries, emerging industries, industries undergoing a transition to maturity, declining industries, and global industries. Finally, the book examines the important strategic decisions that occur in the context of an industry, including vertical integration, capacity expansion, and entry.

I

If a firm can achieve sustainable cost leadership (cost focus) of differentiation (differentiation focus) in its segment and the segment is structurally attractive, then the focuser will be ah above-average performer in its industry. Segment structural attractiveness is a necessary condition because some segments in ah industry ate much less profitable than others, There is of ten room for several sustainable focus strategies in ah industry, provided that focusers choose different target segments. Most industries have a variety of segments, and each one that involves a different buyer need or a different optimal production of delivery system is a candidate fora focus strategy. How to define segments and choose a sustainable focus strategy is described in detail in Chapter 7. Chapter 2 presents the concept of the value chain, and shows how it can be used as the fundamental tool in diagnosing competitive advantage. The chapter describes how to disaggregate the firm into the activities that underlie competitive advantage, and identify the linkages among activities that are central to competitive advantage. It also shows the role of competitive scope in affecting the value chain, and how coalitions with other firms can substitute for performing activities in the chain internally. The chapter also briefly considers the use of the value chain in designing organizational structure. Strategies that change industry structure can be a double-edged sword, because a firm can destroy industry structure and profitability as readily as it can improve it. A new product design that undercuts entry barriers or increases the volatility of rivalry, for example, may undermine the long-run profitability of an industry, though the initiator may enjoy higher profits temporarily. Or a sustained period of price cutting can undermine differentiation. In the tobacco industry, for example, generic cigarettes are a potentially serious threat to industry structure. Generics may enhance the price sensitivity of buyers, trigger price competition, and erode the high advertising barriers that have kept out new entrants. Joint ventures entered into by major aluminum producers to spread risk and lower capital cost may have similarly undermined industry structure. The majors invited a number of potentially dangerous new competitors into the industry and helped them overcome the significant entry barriers to doing so. Joint ventures also can raise exit barriers because all the participants in a plant must agree before it can be closed down. The strategic logic of cost leadership usually requires that a firm be the cost leader, not one of several firms vying for this position. Many firms have made serious strategic errors by failing to recognize this. When there is more than one aspiring cost leader, rivalry among them is usually fierce because every point of market share is viewed as crucial. Unless one firm can gain a cost lead and "persuade" others to abandon their strategies, the consequences for profitability (and long-run industry structure) can be disastrous, as has been the case in a number of petrochemical industries. Thus cost leadership is a strategy particularly dependent on preemption, unless major technological change allows a firm to radically change its cost position.

Achieving cost leadership and differentiation are also usually inconsistent, because differentiation is usually costly. To be unique and command a price premium, a differentiator deliberately elevates costs, as Caterpillar has done in construction equipment. Conversely, cost leadership often requires a firm to forego some differentiation by standardizing its product, reducing marketing overhead, and the like. Exploiting linkages usually requires information or information flows that allow optimization or coordination to take place. Thus, information systems are often vital to gaining competitive advantages from linkages." Chapter 5 explores the relationship between technology and competitive advantage. Technology is pervasive in the value chain and plays a powerful role in determining competitive advantage, in both cost and differentiation. The chapter shows how technological change can influence competitive advantage as well as industry structure. It also describes the variables that shape the path of technological change in an industry. The chapter then describes how a firm can choose a technology strategy to enhance its competitive advantage, encompassing the choice of whether to be a technological leader and the strategic use of technology licensing. The idea of first-mover advantages and disadvantages is developed to highlight the potential risks and rewards of pioneering any change in the way a firm competes. The five forces determine industry profitability because they influence the prices, costs, and required investment of firms in an industry -- the elements of return on investment. Buyer power influences the prices that firms can charge, for example, as does the threat of substitution. The power of buyers can also influence cost and investment, because powerful buyers demand costly service. The bargaining power of suppliers determines the costs of raw materials and other inputs. The intensity of rivalry influences prices as well as the costs of competing in areas such as plant, product development, advertising, and sales force. The threat of entry places a limit on prices, and shapes the investment required to deter entrants.Linkages among value activities arise from a number of generic causes, among them the following: The same function can be performed in different ways...The cost or performance of direct activities is improved by greater efforts in indirect activities...Activities performed inside a firm reduce the need to demonstrate, explain, or service a product in the field...Quality assurance functions can be performed in different ways." The notion underlying the concept of generic strategies is that competitive advantage is at the heart of any strategy, and achieving competitive advantage requires a firm to make a choice -- if a firm is to attain a competitive advantage, it must make a choice about the type of competitive advantage it seeks to attain and the scope within which it will attain it. Being "all things to all people" is a recipe for strategic mediocrity and below-average performance, because it often means that a firm has no competitive advantage at all.