The concept of strategic management is increasingly being adopted by companies across the globe. As competition intensify, firms look for the most effective management strategies or models in order to improve their competitiveness.
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Strategic management can be defined as “a goals-oriented management in which the mission and planned achievements of an organization are clearly set and all management processes are designed and monitored towards reaching the organization’s overall goals” (Joyce and Woods, 2001, p. 12).
It is concerned with the planned and emergent initiatives that mangers take regarding resource allocation and improving the performance of the firm. Such initiatives entail formulating the firm’s mission, vision and objectives as well as formulating policies that help in achieving the objectives.
The performance of a firm is normally assessed using the balanced scorecard model and the results reflect the effectiveness of strategic management. In order to enhance the process of strategic management, Michael Porter developed several analysis tools which can be used by firms to evaluate their competitiveness in an industry.
Such analyses enable firms to make informed decisions in regard to strategic management. This paper focuses on the contributions of Michael Porter in the filed of management.
Michael Porter’s Contributions
Michel Porter developed several analysis and management tools which include Porter’s five forces analysis, value chain analysis, competitive advantage theory, strategic group analysis and generic strategies (Joyce and Woods, 2001, p. 21).
These tools are normally applied to specific management functions. The significance of these tools in the process of strategic management can be explained as follows.
Value Chain Analysis
A value chain refers to the various activities that a firm perform in order to produce the end good or service in a given industry. At each stage “value is added to the product” (Sadler and Craig, 2003, p. 47). In order to deliver value to customers, companies must identify the point at which value is created or lost in their processes.
Thus Michel Porter developed a model for analyzing the value chain in order to help in determining where value is created or lost within a firm. The costs and value associated with the activities of the firm determines whether or not products with the best value are produced by the company (Sadler and Craig, 2003, p. 50).
The value chain framework gives managers the opportunity to identify the activities which generate the greatest value and those that create competitive advantages. Similarly, the framework enables managers to identify the activities that create little value for the firm and its customers. Thus the framework enables managers to determine the activities that are important for competitiveness as well as the achievement of the firm’s overall strategy.
The value chain is characterized by two main categories of activities namely, the primary and the secondary activities. Primary activities are those “directly concerned with the production or delivery of products or services” (Sadler and Craig, 2003, p. 53).
They include transportation, production, sales and marketing services. Secondary activities on the other hand enhance the efficiency as well as effectiveness of primary processes. They include developing human resources, procurement, acquisition of infrastructure and improving production technology.
The firm’s strategic goals must be aligned with its value chain (Sadler and Craig, 2003, p. 53). For example, if the company’s goal is to achieve cost efficiency, then it will focus on activities that reduce costs. In the context of management, the value chain enables the management to evaluate the organization’s design. By identifying the activities that add value and those that do not, the management can make decisions on which activities to outsource or terminate and the ones to strengthen.
Competitive advantages refer to the unique attributes that distinguish a company from the rest and improves its competitiveness within an industry. According to Porter, a firm should pursue policies aimed at producing high-quality products which are then sold at high prices (Dess, 2010, p. 67).
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Competitive advantage is attained when the firm develops attributes which enable it to outperform its rivals. Thus achieving competitive advantage implies the ability to realize high performance through attributes and resources. In the context of management, achieving competitive advantage involves successful implementation of strategic goals.
Strategic management aimed at improving the competitive advantage of a firm should thus involve activities which enhance access to raw materials, talented personnel and new technologies (Dess, 2010, p. 68). Strategic Group
Strategic group analysis is a strategic management concept used to group together firms with similar strategies or business models within an industry (Dess, 2010, p. 77). The number and characteristics of groups in a given industry is determined by the attributes used to categorize them.
However, companies normally fall into two broad categories namely, direct and indirect competitors. Michael Porter “explained the concept of strategic group in terms of mobility barriers” (Dess, 2010, p. 77). The mobility barriers in this case represent the entry barriers which prevent potential competitors from entering the industry.
The significance of strategic group analysis in management includes the following. It enables the management to identify who their rivals are, their strength within the industry and the strategy behind their competitiveness. Thus the management will be able to formulate policies that enable the firm to comfortably compete with its rivals (Dess, 2010, p. 78).
Strategic group analysis also helps the management to determine the likelihood of firms moving from one strategic group to another. By knowing the characteristics of firms within a given strategic group, the management will be able to identify opportunities which they can take advantage of within the industry.
Finally, it enables the firm to identify strategic problems that it faces. Consequently, it gives the management an opportunity to take timely precautionary measures in order to maintain or improve its competitiveness.
The relative position occupied by a firm within an industry determines whether its profitability will be above or below the average profitability levels of the industry. Sustainable competitive advantage is the main determinant of a firm’s ability to realize above average profits in the long-run.
The two main competitive advantages that a company can posses include, low cost and differentiation. When these two types of competitive advantages are aligned with activities for which the company intends to realize them; three generic strategies for achieving above average profitability are formed. The three generic strategies include “cost leadership, differentiation and focus strategy” (Sadler and Craig, 2003, p. 63).
A firm pursuing a cost leadership strategy focuses on being the lowest cost producer in the industry it operates in. The sources of cost advantage are influenced by the industry’s structure. The sources include economies of scale, access to superior production technology and access to raw materials.
In order to achieve cost leadership a firm must explore all avenues of realizing cost advantages (Porter, 1996, pp. 61-78). Achieving cost leadership will enable the firm to realize profits which are higher than the industry average as long as its prices are comparable to the average prices in the industry.
A firm pursing the differentiation strategy aims at being unique within its industry. The firm’s uniqueness is normally built along the dimensions that customers highly value such as superior product quality.
In order to achieve this objective, the firm identifies one or more elements that majority of customers perceive as important (Porter, 1996, pp. 61-78). It then aims at meeting those needs by uniquely positioning itself. The company will be able to charge premium prices if it maintains its unique status in the industry.
According to Porter, a firm pursuing the focus strategy usually identifies a particular segment of the market and concentrates in serving it. Thus the firm’s strategy will be tailored towards serving a particular market while excluding others.
Porter’s Five Forces Analysis
Porter developed a framework for analyzing the level of competition in an industry. His framework identifies five forces which determine the level of competition within an industry. The forces include “threat of new entrants, bargaining power of buyers, threat of substitute products, bargaining power of suppliers and threat of competitive rivalry” (Joyce and Woods, 2001, p. 78).
Thus profitability within a given industry is determined by the strongest force. Profitability will be low if these forces are strong. It will however be relatively high if the forces are weak. Since these forces are external to the firm, they create both threats and opportunities to the firm.
Thus analyzing the relative strength of these forces enables a firm to formulate policies that will help it to take advantage of the opportunities associated with the forces and minimize the threats associated with them.
This objective can be achieved as follows. First, the company should position itself “where the forces are weakest” (Porter, 2000, pp. 1-8). Second, the firm should always explore changes in the forces. The forces normally change over time and can create opportunities for the firm.
Finally, the firm should explore the possibility of reshaping the forces in its favor (Porter, 2000, pp. 1-8). This includes efforts to reduce the threat of substitutes, neutralizing suppliers’ power and countering customer power.
Case Study: Fortescure Metals Group
Fortescure Metals Group (FMG) is a new entrant in the iron ore mining industry. The Porter’s Five Forces analysis will be used to analyze its competitiveness in the industry.
The intensity of competition is very high and this can be explained as follows. Even though there are a few competitors, the dominant firms control the greatest share of the market (78%). There are only three competitors in the industry.
However, the two dominant firms, BHP Billiton and Rio Tinto have the largest market share. The industry growth rate is also slow as demand for iron ore dwindles. The fixed costs are very high since mining is labor intensive. This means that the fixed costs are high due to the large number of employees needed in the industry.
Exit costs are very high due to the high sunk costs associated with mining. Since mining involves specialized equipment and infrastructure, exiting the industry will lead to a loss of the money used to acquire such equipment. The high threat of competitive rivalry is likely to limit FMG’s growth in the industry.
Power of the Buyer
The power of the buyer is very high due to the following reasons. The concentration of buyers relative to suppliers is very high. This means that there are few buyers as compared to suppliers. The buyers’ switching costs are low since they can easily change their suppliers of iron ore at low costs.
The suppliers’ (iron miners) products are not differentiated. The iron ore is normally sold to the buyers as a raw material hence its low level of differentiation. Finally, the threat of backward integration is high as most Chinese steel millers (main buyers) invest in direct mining of iron ore. The high power of the buyers means that iron ore miners are price takers.
Thereat of Substitutes
The threat of substitutes is low in the industry. 99% of the iron is used to manufacture steel. However, there is no substitute for iron in the manufacture of steel. The low threat of substitutes means that the incumbents can increase their profits by increasing the supply of iron ore since there are no substitutes (Sadler and Craig, 2003, p. 80).
Threat of New Entrants
The threat of new entrants in the iron ore mining industry is low due to the following reasons. There is low differentiation of products since all miners produce the same raw iron ore. The capital requirement for joining the industry is very high.
This is because mining is capital intensive and requires heavy investment in infrastructure and technology. The switching costs are very high since moving from one mining site or region to another will require significant investment in plant, equipment and infrastructure.
The incumbents in the industry have a great control over the distribution channel by limiting access to their rail systems. The low threat of new entrants means that new companies can not easily join the industry (Sadler and Craig, 2003, p. 79). Thus the incumbents like FMG can maintain their market shares.
Power of the Supplier
The power of the suppliers is low since the iron ore miners obtain their supply of iron on their own. Thus iron miners such as FMG have the advantage of obtaining their iron ore at the lowest price possible by focusing on cost efficiency in their production.
Strategic management involves formulating the mission of an organization and formulating policies which facilitate resource allocation in order to realize the mission. This process involves designing and effectively executing the organization’s strategy (Sadler and Craig, 2003, p. 27).
The essence of strategic management is to enhance the competitiveness of the organization. Michael Porter developed several tools that can be used by organizations to evaluate their competitiveness and to develop the best strategies as discussed above. Organizations should utilize the tools effectively to enhance their competitiveness.
Dess, G. 2010. Strategic Management. New York: McGraw-Hill.
Joyce, P. and Woods, A. 2001. Strategic Management. New York: Kogan Page.
Porter, M. 2000. The Five Competitive Forces that Shape Strategy. Harvard Business Review, 1(1), pp. 1-8.
Porter, M. 1996. What is Strategy? Harvard Business Review, 1(1), pp.61-78.
Sadler, P. and Craig, J. Strategic Management. New York: Kogan Page.