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THIRD EDITION

Frank T. Rothaermel Georgia Institute of Technology

Strategic Management

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To my eternal family for their love, support, and sacrifice: Kelleyn, Harris, Winston, Roman, Adelaide, and Avery

—FRANK T. ROTHAERMEL

DEDICATION

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PART ONE / ANALYSIS 2

CHAPTER 1 What Is Strategy? 4

CHAPTER 2 Strategic Leadership: Managing the Strategy Process 32

CHAPTER 3 External Analysis: Industry Structure, Competitive Forces, and Strategic Groups 64

CHAPTER 4 Internal Analysis: Resources, Capabilities, and Core Competencies 104

CHAPTER 5 Competitive Advantage, Firm Performance, and Business Models 140

PART TWO / FORMULATION 172

CHAPTER 6 Business Strategy: Differentiation, Cost Leadership, and Blue Oceans 174

CHAPTER 7 Business Strategy: Innovation and Entrepreneurship 208

CHAPTER 8 Corporate Strategy: Vertical Integration and Diversification 252

CHAPTER 9 Corporate Strategy: Strategic Alliances, Mergers and Acquisitions 294

CHAPTER 10 Global Strategy: Competing Around the World 326

PART THREE / IMPLEMENTATION 362

CHAPTER 11 Organizational Design: Structure, Culture, and Control 364

CHAPTER 12 Corporate Governance and Business Ethics 400

PART FOUR / MINICASES 427

HOW TO CONDUCT A CASE ANALYSIS 516

PART FIVE / FULL-LENGTH CASES All available through McGraw-Hill Create, www.McGrawHillCreate.com/Rothaermel

CONTENTS IN BRIEF

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MINICASES / 1 Michael Phelps: Strategy Formulation &

Implementation 428

2 Teach for America: How to Inspire Future Leaders 430 3 PepsiCo’s Indra Nooyi: Performance with Purpose 432 4 How the Strategy Process Kills Innovation

at Microsoft 435

5 Strategy and Serendipity: A Billion-Dollar Business 438 6 Apple: What’s Next? 440 7 Starbucks: Schultz Serves Up a Turnaround 443 8 Nike’s Core Competency:

The Risky Business of Fairy Tales 446

9 When Will P&G Play to Win Again? 449 10 Trimming Fat at Whole Foods Market 452 11 Is Porsche Killing the Golden Goose? 454 12 LEGO’s Turnaround: Brick by Brick 457 13 From Good to Great to Gone:

The Rise and Fall of Circuit City 460

14 Cirque du Soleil: Searching for a New Blue Ocean 462 15 Competing on Business Models: Google vs. Microsoft 465 16 Assessing Competitive Advantage: Apple vs.

Blackberry 469

17 Wikipedia: Disrupting the Encyclopedia Business 475 18 Standards Battle: Which Automotive Technology Will

Win? 478

19 “A” Is for Alphabet and “G” Is for Google: Alphabet’s Corporate Strategy and Google’s Strategy Process 480

20 HP’s Boardroom Drama and Divorce 484 21 Hollywood Goes Global 488 22 Does GM’s Future Lie in China? 492 23 Flipkart Is Fulfilling Its Wish and Beating

Amazon.com 494

24 LVMH in China: Cracks Its Empire of Desire? 497 25 Sony vs. Apple: Whatever Happened to Sony? 501 26 Struggling Samsung Electronics 505 27 Alibaba and China’s ECommerce: Reality Bites 509 28 UBS: A Pattern of Ethics Scandals 513 How to Conduct a Case Analysis 516

FULL-LENGTH CASES / All available through McGraw-Hill Create, www.McGrawHillCreate.com/Rothaermel

Facebook, Inc.

Better World Books and the Triple Bottom Line

Tesla Motors, Inc.

Apple, Inc.

The Movie Exhibition Industry +

McDonald’s Corporation

Google Inc.*

Best Buy Co., Inc.

Delta Air Lines, Inc.*

Amazon.com, Inc.

Merck & Co., Inc.

IBM at the Crossroads

General Electric after GE Capital*

Grok: Action Intelligence for Fast Data

Make or Break at RIM: Launching BlackBerry 10

Genentech: After the Acquisition by Roche

UPS in India—A Package Deal?

Bank of America and the New Financial Landscape

Siemens Energy: How to Engineer a Green Future?

Infosys Consulting in the U.S.—What to Do Now?

InterfaceRAISE: Raising the Bar in Sustainability Consulting

MINICASES AND FULL-LENGTH CASES

* NEW TO THE THIRD EDITION REVISED AND UPDATED FOR THE THIRD EDITION + THIRD-PARTY CASE

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CHAPTERCASES / 1 Does Twitter Have a Strategy? 5 2 Marissa Mayer: Turnaround at Yahoo? 33 3 Tesla Motors and the U.S. Automotive Industry 65 4 Dr. Dre’s Core Competency: Coolness Factor 105 5 The Quest for Competitive Advantage: Apple vs.

Microsoft 141 6 JetBlue: “Stuck in the Middle”? 175 7 Netflix: Disrupting the TV Industry 209 8 How Amazon.com Became the Everything

Store 253 9 Disney: Building Billion-Dollar Franchises 295 10 The Wonder from Sweden: Is IKEA’s Success

Sustainable? 327 11 Zappos: From Happiness to Holacracy 365 12 Uber: Most Ethically Challenged Tech

Company? 401

STRATEGY HIGHLIGHTS / 1.1 Threadless: Leveraging Crowdsourcing to Design

Cool T-Shirts 10 1.2 BP “Grossly Negligent” in Gulf of Mexico

Disaster 20 2.1 Merck: Reconfirming Its Core Values 41 2.2 Starbucks’ CEO: “It’s Not What We Do” 51 3.1 Blackberry’s Bust 71 3.2 The Five Forces in the Airline Industry 74 4.1 Applying VRIO: The Rise and Fall of Groupon 117 4.2 Dynamic Capabilities at IBM 123 5.1 Interface: The World’s First Sustainable

Company 161 5.2 Airbnb: Tapping the Value of Unused Space 162 6.1 Dr. Shetty: “The Henry Ford of Heart Surgery” 189 6.2 How JCPenney Sailed Deeper into the Red

Ocean 198 7.1 How Dollar Shave Club Is Disrupting Gillette 236 7.2 GE’s Innovation Mantra: Disrupt Yourself! 237 8.1 Is Coke Becoming a Monster? 263 8.2 The Tata Group: Integration at the Corporate

Level 276 9.1 IBM and Apple: From Big Brother to Alliance

Partner 301 9.2 Food Fight: Kraft’s Hostile Takeover of

Cadbury 312 10.1 The Gulf Airlines Are Landing in the United

States 334 10.2 Walmart Retreats from Germany 337 11.1 The Premature Death of a Google-like Search

Engine at Microsoft 370 11.2 W.L. Gore & Associates: Informality and

Innovation 374 12.1 GE’s Board of Directors 411 12.2 Did Goldman Sachs and the “Fabulous Fab”

Commit Securities Fraud? 416

CHAPTERCASES & STRATEGY HIGHLIGHTS

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CONTENTS

PART ONE / ANALYSIS 2 CHAPTER 1 WHAT IS STRATEGY? 4

CHAPTERCASE 1 Does Twitter Have a Strategy? 5

1.1 What Strategy Is: Gaining and Sustaining Competitive Advantage 6

What Is Competitive Advantage? 8 Industry vs. Firm Effects in Determining Firm Performance 11

1.2 Stakeholders and Competitive Advantage 12 Stakeholder Strategy 14 Stakeholder Impact Analysis 15

1.3 The AFI Strategy Framework 20 1.4 Implications for the Strategist 22

CHAPTERCASE 1 / Consider This... 23

CHAPTER 2 STRATEGIC LEADERSHIP: MANAGING THE STRATEGY PROCESS 32

CHAPTERCASE 2 Marissa Mayer: Turnaround at Yahoo? 33

2.1 Vision, Mission, and Values 34 Vision 35 Mission 36 Values 36

2.2 Strategic Leadership 40 What Do Strategic Leaders Do? 42 How Do You Become a Strategic Leader? 43 Formulating Strategy across Levels: Corporate, Business, and Functional Managers 43

2.3 The Strategic Management Process 46 Top-Down Strategic Planning 46 Scenario Planning 47 Strategy as Planned Emergence: Top-Down and Bottom-Up 49

2.4 Implications for the Strategist 53

CHAPTERCASE 2 / Consider This... 55

CHAPTER 3 EXTERNAL ANALYSIS: INDUSTRY STRUCTURE, COMPETITIVE FORCES, AND STRATEGIC GROUPS 64

CHAPTERCASE 3 Tesla Motors and the U.S. Automotive Industry 65

3.1 The PESTEL Framework 66 Political Factors 67 Economic Factors 68 Sociocultural Factors 69 Technological Factors 70 Ecological Factors 70 Legal Factors 72

3.2 Industry Structure and Firm Strategy: The Five Forces Model 72

Competition in the Five Forces Model 73 The Threat of Entry 75 The Power of Suppliers 79 The Power of Buyers 80 The Threat of Substitutes 81 Rivalry among Existing Competitors 82 A Sixth Force: The Strategic Role of Complements 89

3.3 Changes over Time: Industry Dynamics 89 3.4 Performance Differences within the Same Industry: Strategic Groups 90

The Strategic Group Model 91 Mobility Barriers 93

3.5 Implications for the Strategist 93

CHAPTERCASE 3 / Consider This... 95

CHAPTER 4 INTERNAL ANALYSIS: RESOURCES, CAPABILITIES, AND CORE COMPETENCIES 104

CHAPTERCASE 4 Dr. Dre’s Core Competency: Coolness Factor 105

4.1 Core Competencies 108 4.2 The Resource-Based View 111

Two Critical Assumptions 112 The VRIO Framework 113 Isolating Mechanisms: How to Sustain a Competitive Advantage 118

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4.3 The Dynamic Capabilities Perspective 122 4.4 The Value Chain Analysis 127 4.5 Implications for the Strategist 129

Using SWOT Analysis to Combine External and Internal Analysis 130

CHAPTERCASE 4 / Consider This... 132

CHAPTER 5 COMPETITIVE ADVANTAGE, FIRM PERFORMANCE, AND BUSINESS MODELS 140

CHAPTERCASE 5 The Quest for Competitive Advantage: Apple vs. Microsoft 141

5.1 Competitive Advantage and Firm Performance 142

Accounting Profitability 143 Shareholder Value Creation 149 Economic Value Creation 151 The Balanced Scorecard 156 The Triple Bottom Line 159

5.2 Business Models: Putting Strategy into Action 160

Popular Business Models 163 Dynamic Nature of Business Models 164

5.3 Implications for the Strategist 165

CHAPTERCASE 5 / Consider This... 166

PART TWO / FORMULATION 172 CHAPTER 6 BUSINESS STRATEGY: DIFFERENTIATION, COST LEADERSHIP, AND BLUE OCEANS 174

CHAPTERCASE 6 JetBlue: “Stuck in the Middle”? 175

6.1 Business-Level Strategy: How to Compete for Advantage 177

Strategic Position 178 Generic Business Strategies 178

6.2 Differentiation Strategy: Understanding Value Drivers 180

Product Features 182 Customer Service 182 Complements 182

6.3 Cost-Leadership Strategy: Understanding Cost Drivers 183

Cost of Input Factors 184 Economies of Scale 184 Learning Curve 187 Experience Curve 190

6.4 Business-Level Strategy and the Five Forces: Benefits and Risks 191

Differentiation Strategy: Benefits and Risks 192 Cost-Leadership Strategy: Benefits and Risks 192

6.5 Blue Ocean Strategy: Combining Cost Leadership and Differentiation 194

Value Innovation 194 Blue Ocean Strategy Gone Bad: “Stuck in the Middle” 197

6.6 Implications for the Strategist 200

CHAPTERCASE 6 / Consider This... 200

CHAPTER 7 BUSINESS STRATEGY: INNOVATION AND ENTREPRENEURSHIP 208

CHAPTERCASE 7 Netflix: Disrupting the TV Industry 209

7.1 Competition Driven by Innovation 211 The Innovation Process 212

7.2 Strategic and Social Entrepreneurship 215 7.3 Innovation and the Industry Life Cycle 217

Introduction Stage 219 Growth Stage 220 Shakeout Stage 223 Maturity Stage 224 Decline Stage 224 Crossing the Chasm 225

7.4 Types of Innovation 231 Incremental vs. Radical Innovation 232 Architectural vs. Disruptive Innovation 234 Open Innovation 238

7.5 Implications for the Strategist 241

CHAPTERCASE 7 / Consider This... 242

CHAPTER 8 CORPORATE STRATEGY: VERTICAL INTEGRATION AND DIVERSIFICATION 252

CHAPTERCASE 8 How Amazon.com Became the Everything Store 253

8.1 What Is Corporate Strategy? 255 Why Firms Need to Grow 255 Three Dimensions of Corporate Strategy 257

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8.2 The Boundaries of the Firm 258 Firms vs. Markets: Make or Buy? 259 Alternatives on the Make-or-Buy Continuum 261

8.3 Vertical Integration along the Industry Value Chain 264

Types of Vertical Integration 266 Benefits and Risks of Vertical Integration 267 When Does Vertical Integration Make Sense? 269 Alternatives to Vertical Integration 270

8.4 Corporate Diversification: Expanding Beyond a Single Market 271

Types of Corporate Diversification 273 Leveraging Core Competencies for Corporate Diversification 275 Corporate Diversification and Firm Performance 279

8.5 Implications for the Strategist 282

CHAPTERCASE 8 / Consider This... 283

CHAPTER 9 CORPORATE STRATEGY: STRATEGIC ALLIANCES AND MERGERS AND ACQUISITIONS 294

CHAPTERCASE 9 Disney: Building Billion-Dollar Franchises 295

9.1 How Firms Achieve Growth 296 The Build-Borrow-Buy Framework 297

9.2 Strategic Alliances 299 Why Do Firms Enter Strategic Alliances? 300 Governing Strategic Alliances 304 Alliance Management Capability 307

9.3 Mergers and Acquisitions 309 Why Do Firms Merge with Competitors? 310 Why Do Firms Acquire Other Firms? 311 M&A and Competitive Advantage 313

9.3 Implications for the Strategist 315

CHAPTERCASE 9 / Consider This... 316

CHAPTER 10 GLOBAL STRATEGY: COMPETING AROUND THE WORLD 326

CHAPTERCASE 10 The Wonder from Sweden: Is IKEA’s Success Sustainable? 327

10.1 What Is Globalization? 329 Stages of Globalization 331 State of Globalization 332

10.2 Going Global: Why? 333 Advantages of Going Global 333

Disadvantages of Going Global 336 10.3 Going Global: Where and How? 338

Where in the World to Compete? The CAGE Distance Framework 339 How Do MNEs Enter Foreign Markets? 342

10.4 Cost Reductions vs. Local Responsiveness: The Integration-Responsiveness Framework 343

International Strategy 344 Multidomestic Strategy 345 Global-Standardization Strategy 346 Transnational Strategy 347

10.5 National Competitive Advantage: World Leadership in Specific Industries 348

Porter’s Diamond Framework 350 10.6 Implications for the Strategist 352

CHAPTERCASE 10 / Consider This... 353

PART THREE / IMPLEMENTATION 362 CHAPTER 11 ORGANIZATIONAL DESIGN: STRUCTURE, CULTURE, AND CONTROL 364

CHAPTERCASE 11 Zappos: From Happiness to Holacracy 365

11.1 Organizational Design and Competitive Advantage 367

Organizational Inertia: The Failure of Established Firms 368 Organizational Structure 371 Mechanistic vs. Organic Organizations 372

11.2 Strategy and Structure 374 Simple Structure 375 Functional Structure 375 Multidivisional Structure 377 Matrix Structure 381

11.3 Organizational Culture: Values, Norms, and Artifacts 384

Where Do Organizational Cultures Come From? 386 How Does Organizational Culture Change? 386 Organizational Culture and Competitive Advantage 387

11.4 Strategic Control-and-Reward Systems 389 Input Controls 390 Output Controls 390

11.5 Implications for the Strategist 391

CHAPTERCASE 1 / Consider This... 392

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CHAPTER 12 CORPORATE GOVERNANCE AND BUSINESS ETHICS 400

CHAPTERCASE 12 Uber: Most Ethically Challenged Tech Company? 401

12.1 The Shared Value Creation Framework 403 Public Stock Companies and Shareholder Capitalism 403 Creating Shared Value 405

12.2 Corporate Governance 407 Agency Theory 408 The Board of Directors 409 Other Governance Mechanisms 412

12.3 Strategy and Business Ethics 414 12.4 Implications for the Strategist 418

CHAPTERCASE 12 / Consider This... 419

PART FOUR / MINICASES 427

PART FIVE / FULL-LENGTH CASES All available through McGraw-Hill Create, www.McGrawHillCreate.com/Rothaermel Company Index I1 Name Index I7 Subject Index I9

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Frank T. Rothaermel Georgia Institute of Technology

FRANK T. ROTHAERMEL (PH.D.) is a professor of strategy, holds the Russell and Nancy McDonough Chair in the Scheller College of Business at the Georgia Institute of Technology (GT), and is an Alfred P. Sloan Industry Studies Fellow. He received a National Science Foundation (NSF) CAREER award, which “is a Foundation-wide activity that offers the National Science Foundation’s most prestigious awards in support of . . . those teacher-scholars who most effectively integrate research and education” (NSF CAREER Award description).

Frank’s research interests lie in the areas of strategy, innovation, and entrepreneurship. Frank has published over 30 articles in lead- ing academic journals such as the Strategic Management Journal, Organization Science, Academy of Management Journal, Academy of Management Review, and elsewhere. He has received several rec- ognitions for his research, including the Sloan Industry Studies Best Paper Award, the Academy of Management Newman Award, the Strategic Management Society Conference Best Paper Prize, the DRUID Conference Best Paper Award, and the Israel Strategy Conference Best Paper Prize.

Thomson Reuters identified Frank as one of the “world’s most influential scientific minds” for having published in the top 1% of citation-based journal articles. He was listed among the top-100 scholars for his more than decade-long impact in both economics and business. Businessweek named Frank one of Georgia Tech’s Prominent Faculty in their national survey of business schools. The Kauffman Foundation views Frank as one of the world’s 75 thought leaders in entrepreneurship and innovation.

To inform his research Frank has conducted extensive field work and executive train- ing with leading corporations such as Amgen, Daimler, Eli Lilly, Equifax, GE Energy, GE Healthcare, Hyundai Heavy Industries (South Korea), Kimberly-Clark, Microsoft, McKes- son, NCR, Turner (TBS), UPS, among others. Frank regularly translates his research find- ings for wider audiences in articles in Forbes, MIT Sloan Management Review, Wall Street Journal, and elsewhere.

Frank has a wide range of executive education experience, including teaching in pro- grams at Georgia Institute of Technology, Georgetown University, ICN Business School (France), Politecnico di Milano (Italy), St. Gallen University (Switzerland), and the Uni- versity of Washington. He received numerous teaching awards for excellence in the class- room including the GT institute-wide Georgia Power Professor of Excellence award. When launched (in 2012), Frank’s Strategic Management textbook received the McGraw-Hill 1st Edition of the Year Award in Business & Economics.

Frank holds a PhD degree in strategic management from the University of Washington; a MBA from the Marriott School of Management at Brigham Young University; and a M.Sc. (Diplom-Volkswirt) in economics from the University of Duisburg-Essen, Germany. Frank completed training in the case teaching method at the Harvard Business School. He was a visiting professor at the University of St. Gallen, Switzerland, and an Erasmus Scholar at Sheffield Hallam University, UK.

VISIT THE AUTHOR AT: http://ftrStrategy.com/

ABOUT THE AUTHOR

© Kelleyn Rothaermel

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PREFACE

Strategic Management is a research- and application-based strategy text that covers issues facing managers in a globalized and turbulent 21st century.

When the first edition published, the market response was overwhelmingly enthusiastic, and I was grateful for the strong vote of confidence. When the second edition published, the enthusiasm was even greater; I remain ever grateful for the sustained support. In this third edition, I build upon the unique strengths of the text and continue to add improve- ments based upon hundreds of insightful reviews and important feedback from professors, students, and professionals.

The strategy textbook market has long been separated into two overarching categories: traditional, application-based and research-based. Traditional, application-based strategy books represent the first-generation texts whose first editions were published in the 1980s. The research-based strategy books represent the second-generation texts whose first editions were published in the 1990s. This text represents a new category of strategy textbook—a third-generation text that combines the student accessible, application- oriented framework of the first-generation texts with the research-based framework of the second-generation texts. It integrates core concepts, frameworks, and analysis techniques in strategy with functional course offerings; it also aims to help students become managers capable of making well-reasoned strategic decisions.

To facilitate an enjoyable and refreshing reading experience that enhances learning, I synthesize and integrate theory, empirical research, and practical applications with current real-world examples. This approach and emphasis on real-world examples offers students a learning experience that uniquely combines rigor and relevance. As Dr. John Media of the University of Washington’s School of Medicine and life-long researcher on how the mind organizes information, explains:

How does one communicate meaning in such a fashion that learning is improved? A simple trick involves the liberal use of relevant real-world examples, thus peppering main learning points with meaningful experiences. . . . Numerous studies show this works. . . . The greater the number of examples . . . the more likely the students were to remember the information. It’s best to use real-world situations familiar to the learner. . . . Examples work because they take advantage of the brain’s natural predilection for pattern matching. Information is more readily processed if it can be immediately associated with information already present in the brain. We compare the two inputs, looking for similarities and differences as we encode the new information. Providing examples is the cognitive equivalent of adding more han- dles to the door. [The more handles one creates at the moment of learning, the more likely the information can be accessed at a later date.] Providing examples makes the information more elaborative, more complex, better encoded, and therefore better learned.*

Strategic Management brings theory to life via examples that cover products and services from companies with which students are familiar, such as Facebook, Google, Starbucks, Apple, and Uber. Use of such examples aids in making strategy relevant to students’ lives and helps them internalize strategy concepts and frameworks.

The hallmark features of this text continue to be:

■ Use of a holistic Analysis, Formulation, and Implementation (AFI) Strategy Framework.

■ Synthesis and integration of empirical research and practical applications combined with rel- evant strategy material to focus on what is important for the student and why it is important.

*Source: Medina, J. (2014). Brain Rules: 12 Principles for Surviving and Thriving at Work, Home, and School (pp. 139–140). Pear Press. Kindle Edition.

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■ Comprehensive but concise presentation of core concepts, frameworks, and techniques.

■ Combination of traditional and contemporary strategy concepts. ■ Up-to-date examples and discussion of current topics within a global context. ■ Stand-alone chapter on competitive advantage, including a focus on triple bottom line

and sustainability. ■ Direct applications of strategy to careers and lives (including the popular myStrategy

modules at the end of each chapter). ■ Inclusion of Strategy Term Project (end-of-chapter) and interactive Running Case on

HP (in Connect). ■ Industry-leading digital delivery options and adaptive learning systems (Create,

SmartBook, LearnSmart, and Connect) ■ High-quality Cases, well integrated with textbook chapters and standardized, high-

quality teaching notes; there are two types of cases: ■ ChapterCases begin and end each chapter, framing the chapter topic and content. ■ 28 MiniCases (Part 4 of the book), all based on original research, provide

dynamic opportunities for students to apply strategy concepts by assigning them as add-ons to chapters, either as individual assignments or as group work, or by using them for class discussion.

I have taken pride in authoring all of the ChapterCases, Strategy Highlights, and Mini- Cases. This additional touch allows quality control and ensures that chapter content and cases use one voice and are closely interconnected. Both types of case materials come with sets of questions to stimulate class discussion or provide guidance for written assignments. The instructor resources offer sample answers that apply chapter content to the cases.

In addition to these in-text cases, 21 full-length cases, authored or co-authored by me specifically to accompany this textbook, are available through McGraw-Hill’s custom- publishing Create program (www.McGrawHillCreate.com/Rothaermel). Full-length cases New to the third edition are: Delta, General Electric, and Google. Popular cases about Apple, Amazon.com, IBM, Facebook, McDonald’s, Tesla Motors, and Better World Books among several others are significantly updated and revised. Robust and standardized case teaching notes are also available and accessible through Create; financial data for these cases may be accessed from the Instructor Resource site on Connect.

What’s New in the Third Edition? I have revised and updated the third edition in the following ways, many of which were inspired by conversations and feedback from the many users and reviewers of the first and second editions.

OVERVIEW OF IMPORTANT CHANGES IN 3E: ■ New section on blue ocean strategy (Chapter 6), with application examples and strat-

egy canvas. ■ More global coverage included throughout, with a stronger Asian focus both on the

continent as well as its global competitors. ■ Stronger focus on sustainable business. ■ Increased the total number of MiniCases to 28 (15 brand new, 13 revised). ■ New, completely revised, or updated ChapterCases and Strategy Highlights.

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■ Stronger integration and expanded discussion of ChapterCases throughout. ■ Increased emphasis on practice and applications of strategy concepts and

frameworks. ■ Updated or new firm, product, and service examples to afford more in-depth discussion. ■ Enhanced graphic design and rendering of exhibits throughout entire text.

In detail:

CHAPTER 1 ■ New ChapterCase about Twitter’s rise and current challenges. ■ New Strategy Highlight 1.1 discussing Threadless and its use of crowdsourcing to

help produce better products and maintain competitive advantage. ■ Updated Strategy Highlight 1.2 about BP’s Gulf Coast oil spill and systemic safety

issues over the last decade.

CHAPTER 2 ■ New ChapterCase about Yahoo’s CEO Marissa Mayer and the attempted turnaround

under her leadership. ■ Created new and stand-alone sections on each vision, mission, and values. ■ Updated Strategy Highlight 2.1 on Merck’s core values and the development of drugs

to treat river blindness and the challenges with the Vioxx recall. ■ Added a new table comparing and contrasting top-down strategic planning, scenario

planning, and strategy as planned emergence (brief descriptions, pros and cons, where best used); see Exhibit 2.9.

■ Added new sections to expand discussion of autonomous actions, serendipity, and resource allocation process as part of strategy as planned emergence.

■ Added new ethical/social issues question focusing on Merck’s responsibility to meet the needs of both its customers and its shareholders.

CHAPTER 3 ■ Updated ChapterCase about Tesla Motors and the U.S. automotive industry. ■ Separate discussion of political and legal factors in the PESTEL framework. ■ Sharpened the discussion of PESTEL framework overall. ■ New Strategy Highlight 3.1: “BlackBerry’s Bust.” ■ Updated the discussion of competition in the U.S. domestic airline industry through-

out the chapter, and in Strategy Highlight 3.2: “The Five Forces in the Airline Industry.”

CHAPTER 4 ■ New ChapterCase about Dr. Dre, and multi-billion-dollar Apple acquisition of Beats

Electronics. ■ Fresh examples of core competencies and their applications. ■ Interlocution of the concept of Core Rigidities. ■ Expanded discussion on dynamic capabilities, including new Strategy Highlight 4.2:

“Dynamic Capabilities at IBM.”

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■ Included new Exhibit 4.6 showing IBM’s successful transition throughout several technological discontinuities over the last 125 years.

■ Sharpened discussion of SWOT, including moving (an updated version of) the SWOT application to McDonald’s in the Instructor Manual.

CHAPTER 5 ■ New ChapterCase, focusing on Apple vs. Microsoft and their quest for competitive

advantage over time. ■ Extended discussion of Apple and Microsoft (turnaround under new CEO Satya

Nadella) throughout the chapter. ■ Sharpened discussion of competitive advantage and firm performance. ■ Expanded discussion of business models to include new popular applications and

examples, with a more in-depth discussion. ■ New Strategy Highlight 5.2 on Airbnb and its novel business model.

CHAPTER 6 ■ New ChapterCase about JetBlue and how its straddling of different strategy positions

led to being “Stuck in the Middle” and a competitive disadvantage. ■ New section on Blue Ocean Strategy. ■ Application of the Blue Ocean Strategy canvas to the U.S. domestic airline industry. ■ Discussion of the Eliminate-Reduce-Raise-Create framework from Blue Ocean Strat-

egy and application to IKEA. ■ New Strategy Highlight 6.1: “Dr. Shetty: The Henry Ford of Heart Surgery,” focusing

on cost reductions in healthcare. ■ New Strategy Highlight 6.2: “How JCPenney Sailed into the Red Ocean.” ■ Dropped the section “The Dynamics of Competitive Positioning” ■ New myStrategy module, comparing and contrasting low-cost and differentiated

workplaces.

CHAPTER 7 ■ New ChapterCase on Netflix and the disruption in the TV industry. ■ Coverage of innovation process expanded with a stronger focus on how to manage

innovation. ■ More in-depth coverage of product and process innovation over the entire industry life

cycle, including revision of Exhibit 7.6 “Product and Process Innovation throughout an Industry Life Cycle.”

■ Revision of Exhibit 7.9 “Features and Strategic Implications of the Industry Life Cycle.” ■ New Strategy Highlight 7.1: “How Dollar Shave Club Is Disrupting Gillette.” ■ Dropped the section “The Internet as Disruptive Force: The Long Tail.” ■ Revised the myStrategy module and end-of-chapter section around debate on whether

college adds to potential success of entrepreneurs.

CHAPTER 8 ■ New ChapterCase on how Amazon.com diversified over time to become the “Every-

thing Store,” including a detailed exhibit showing Amazon.com’s key strategic initia- tives and stock market valuation from the idea of in 1994 to 2015 (Exhibit 8.1).

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■ New section titled, “Why Firms Need to Grow.” ■ New Strategy Highlight 8.1 “Is Coke Becoming a Monster?” ■ More in-depth discussion of Exhibit 8.4 “Alternatives on the Make-or-Buy Contin-

uum” in the text. ■ New subsection on “When Does Vertical Integration Make Sense?” ■ Revised section of “Types of Corporate Diversification” to sharpen discussion and

provide graphic support as Rumelt’s framework categorizing different types of diver- sification is developed (Exhibit 8.8).

■ Expanded discussion to clarify more fully the sources of value creation and costs of vertical integration and diversification (Exhibit 8.11).

CHAPTER 9 ■ Revised and updated ChapterCases focusing on Disney’s attempt to build billion-

dollar franchises, with strategic alliances, and mergers and acquisitions as critical to corporate strategy execution.

■ Changed macro structure of chapter by moving the Build-Borrow-Buy Framework upfront to guide and frame the discussion corporate strategy execution using.

■ Discussion of strategic alliances before mergers and acquisitions. ■ Included a new section entitled “How Firms Achieve Growth.” ■ New Strategy Highlight 9.1 “IBM and Apple: From Big Brother to Big Alliance Partner.” ■ Revised to myStrategy module to sharpen the discussion of network strategy in terms

of career management.

CHAPTER 10 ■ New ChapterCase on IKEA, with a focus on the question whether the Swedish furni-

ture retailer’s success is sustainable while competing globally. ■ Reorganization of section “What Is Globalization” into two subsections, focusing on

the stage and state of globalization respectively. ■ New Strategy Highlight 10.1 “The Gulf Airlines Are Landing in the United States.”

CHAPTER 11 ■ Revised and updated ChapterCase “Zappos: From Happiness to Holacracy.” ■ Included discussion on Holacracy as new organization structure. ■ Expanded discussion with detailed visual support of section “Organizational Inertia:

The Failure of Established Firms.” ■ New Strategy Highlight 11.1 “The Premature Death of a Google-like Search Engine

at Microsoft.” ■ Dropped section on using SWOT analysis for strategy implementation.

CHAPTER 12 ■ New ChapterCase on Uber and its ethical lapses. ■ Strong integration of Uber ChapterCase throughout the body of the chapter. ■ Updated Strategy Highlight 12.1 “GE’s Board of Directors,” including discussion

chairperson—CEO duality in the body of the chapter. ■ Updated Strategy Highlight 12.2 “Did Goldman Sachs and the Fabulous Fab Commit

Securities Fraud?”

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MINICASES ■ Added 15 brand-new MiniCases. ■ Updated 13 MiniCases from second edition. ■ Stronger focus on non-U.S. firms, especially on global competitors from Asia. ■ Stronger focus on competing in China and India, facing strong domestic competitors.

FULL-LENGTH CASES ■ Added three brand-new, full-length Cases: Delta Air Lines, General Electric after GE

Capital, and Google. ■ Revised and updated: Amazon.com, Apple, Best Buy, Better World Books, Facebook,

IBM, McDonald’s, Merck, Tesla Motors, and Better World Books, among others. ■ Also included is an updated version of the popular case “The Movie Exhibition Indus-

try” by Steve Gove and Brett Matherne. ■ All cases—including the new and revised cases plus all cases from the first and sec-

ond editions that were authored by Frank T. Rothaermel—are available through McGraw-Hill Create: http://www.mcgrawhillcreate.com/Rothaermel.

■ Cases include financial data in e-format for analysis.

Instructor Resources Connect, McGraw-Hill’s online assignment and assessment system, offers a wealth of content for both students and instructors. Students will find the following:

■ Running case, an activity that begins with a review of a specific company and its applied strategy using appropriate tools (e.g., PESTEL, Porter’s Five Forces, VRIO, SWOT, and others). The analysis progresses from a broad perspective to the appropriate company-level perspective—i.e., from global to industry to strategic group to company. Students will develop a strategy analysis for the company and consider several scenarios for improving the company’s competitive advantage. The scenarios will include a financial analysis and justification and ultimately provide a specific recommendation.

■ Interactive applications (such as click-drag activities, video cases, and—new in this edition—case analyses for each of the MiniCases) that require students to apply key concepts; instant feedback and progress tracking are also available.

■ Resources for analysis (such as financial ratios, templates for strategic financial analysis, and financial review activities) that provide students with the tools they need to compare performance between firms and to refresh or extend their working knowl- edge of major financial measures in a strategic framework.

■ LearnSmart and SmartBook, which has been significantly improved for this edition to provide students with more opportunity to probe concepts at a higher level of thinking.

Under the Instructor’s Resources tab, instructors will find tested and effective tools that enable automatic grading and student-progress tracking and reporting, and a trove of content to support teaching:

■ The Combined Instructor Manual (IM) includes thorough coverage of each chapter, support for newer and experienced faculty, as well as guidance for integrating Connect— all in a single resource. Included in this newly combined IM is the appropriate level of theory, recent application or company examples, teaching tips, PowerPoint references, critical discussion topics, and answers to end-of-chapter exercises.

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xviii PREFACE

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■ The PowerPoint (PPT) slides provide comprehensive lecture notes, video links, and company examples not found in the textbook. There will be instructor media- enhanced slides as well as notes with outside application examples.

■ The Test Bank includes 100–150 questions per chapter, in a range of formats and with a greater-than-usual number of comprehension, critical-thinking, and application (or scenario-based) questions. It’s tagged by learning objectives, Bloom’s Taxonomy levels, and AACSB compliance requirements.

■ The Video Guide is new for this edition and includes video links that relate to con- cepts from chapters. The video links include sources such as Big Think, Stanford Uni- versity’s Entrepreneurship Corner, The McKinsey Quarterly, ABC, BBC, CBS, CNN, ITN/Reuters, MSNBC, NBC, PBS, and YouTube.

CREATE, McGraw-Hill’s custom-publishing program, is where you access the full-length cases that accompany Strategic Management (http://www.mcgrawhillcreate.com/Rothaermel). Through CREATE, you will be able to select from 20 author-written cases that go specifi- cally with this textbook as well as cases from Harvard, Ivey Darden, NACRA, and much more! You can: Assemble your own course, selecting the chapters, cases, and readings that will work best for you. Or choose from several ready-to-go, author-recommended complete course solutions, which include chapters, cases, and readings, pre-loaded in CREATE. Among the pre-loaded solutions, you’ll find options for undergrad, MBA, accelerated, and other strategy courses.

Any list of acknowledgments will almost always be incomplete, but I would like to thank some special people without whom this text would not have been possible. First and fore- most, my wife Kelleyn, and our children: Harris, Winston, Roman, Adelaide, and Avery. Over the last few years, I have worked longer hours than when I was a graduate student to conduct the research and writing necessary for this text and accompanying case studies and other materials. I sincerely appreciate the sacrifice this has meant for my family.

The Georgia Institute of Technology provided a conducive, intellectual environment and superb institutional support to make this project possible. I thank Russell and Nancy McDonough for generously funding the endowed chair that I am honored to hold. I’m grateful for Dean Maryam Alavi and Senior Associate Dean Peter Thompson for provid- ing the exceptional leadership that allows faculty to fully focus on research, teaching, and service. I have been at Georgia Tech for over a decade, and could not have had better colleagues—all of whom are not only great scholars but also fine individuals whom I’m fortunate to have as friends: Marco Ceccagnoli, Annamaria Conti, Stuart Graham, Matt Higgins, David Ku, John McIntyre, Alex Oettl, Henry Sauermann, Eunhee Sohn, Jerry Thursby, and Marie Thursby. We have a terrific group of current and former PhD stu- dents, many of whom had a positive influence on this project, including Shanti Agung (Drexel University), Drew Hess (Washington and Lee University), Kostas Grigoriou (Flor- ida International University), Jaiswal Mayank, Nicola McCarthy, German Retana (INCAE Business School, Costa Rica), Briana Sell, (Mercer University) Jose Urbina, Carrie Yang (University of Chicago), and Wei Zhang (Singapore Management University).

ACKNOWLEDGMENTS

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I was also fortunate to work with McGraw-Hill, and the best editorial and market- ing team in the industry: Michael Ablassmeir (Director), Susan Gouijnstook (Managing Director), Lai T. Moy (Senior Product Developer), Casey Keske (Senior Marketing Man- ager), Mary E. Powers and Keri Johnson (Content Project Managers), and Matt Diamond (Designer). Bill Teague, Freelance Content Development Editor, worked tirelessly and carefully on the third edition manuscript. Thank you to senior management at McGraw- Hill Education, especially Kurt Strand (Senior Vice President, Products & Markets), who assembled this fine team.

I’m more than grateful to work with a number of great colleagues on various resources that accompany this text:

■ Marne Arthaud-Day (Kansas State University) on some Cases and Case Teaching Notes

■ Heidi Bertels (College of Staten Island, CUNY) on SmartBook and LearnSmart ■ John Burr (Purdue University) on the Video Guide ■ Melissa Francisco (University of Central Florida) on the PowerPoint Slide Decks ■ Anne Fuller (California State University, Sacramento), on Connect Interactives,

Connect Instructor Manual, and End-of-Chapter Material ■ David R. King (Iowa State University) on MiniCase Teaching Notes as well as on

select Full-length Cases and Full-length Case Teaching Notes ■ Stuart Napshin (Kennesaw State University) on Connect Interactives ■ Louise Nemanich (Arizona State University) on the Instructor Manual ■ Chris Papenhausen (University of Massachusetts, Dartmouth) on Strategic Financial

Analysis

■ Robert Porter (University of Central Florida) on the Running Case in Connect

I’d also like to thank the students at Georgia Tech, in the undergraduate and full-time day MBA, and the evening and executive MBA programs, as well as the executive MBA students from the ICN Business School in Nancy, France, on whom the materials were beta-tested. Their feedback helped fine-tune the content and delivery.

Last, but certainly not least, I wish to thank the reviewers and focus group attendees who shared their expertise with us, from the very beginning when we developed the pro- spectus to the final text and cases that you hold in your hands. The reviewers have given us the greatest gift of all—the gift of time! These very special people are listed starting on page xxiii.

Frank T. Rothaermel Georgia Institute of Technology

Web: http://ftrStrategy.com/ Strategy Blog: http://www.facebook.com/ftrStrategy

Twitter: @ftrStrategy

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This book has gone through McGraw-Hill Education’s thorough development process. Over the course of several years, the project has benefited from numerous developmen- tal focus groups and symposiums, from hundreds of reviews from reviewers across the country, and from beta-testing of the first-edition manuscript as well as market reviews of the second edition on a variety of campuses. The author and McGraw-Hill wish to thank the following people who shared their insights, constructive criticisms, and valu- able suggestions throughout the development of this project. Your contributions have improved this product.

THANK YOU . . .

Joshua R. Aaron East Carolina University

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REVIEWERS AND SYMPOSIUM ATTENDEES

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THANK YOU . . . xxi

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Kenneth H. Chadwick Nicholls State University

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James Fiet University of Louisville

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xxii THANK YOU . . .

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Steve Gove University of Vermont

Patrick Greek Macomb Community College

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Regina A. Greenwood Nova Southeastern University

Robert D. Gulbro Athens State University

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Stephen F. Hallam University of Akron

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Ahma Hassan Morehead State University

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Jon Timothy Heames West Virginia University

Richard A. Heiens University of South Carolina, Aiken

Duane Helleloid University of North Dakota

Kurt A. Heppard United States Air Force Academy

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Scott Hicks Liberty University

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Phyllis Holland Valdosta State University

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K. Blaine Lawlor University of West Florida

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THANK YOU . . . xxiii

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David Leibsohn California State University, Fullerton

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Jun Lin State University of New York (SUNY), New Paltz

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David Major Indiana University

Paul Mallette Colorado State University

Tatiana S. Manolova Bentley University

Daniel B. Marin Louisiana State University

Louis Martinette University of Mary Washington

Anthony U. Martinez San Francisco State University

Sarah Marsh Northern Illinois University

Patricia Matuszek Troy University- Montgomery

David McCalman University of Central Arkansas

Jeffrey E. McGee The University of Texas at Arlington

Jean McGuire Louisiana State University

Rick McPherson University of Washington

Michael Merenda University of New Hampshire

John M. Mezias University of Miami

Grant Miles University of North Texas

Douglas R. Miller University of North Carolina

Michael Miller University of Illinois at Chicago

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Raza Mir William Paterson University

Kelly Mollica University of Memphis

Mike Montalbano Bentley University

Gwen Moore University of Missouri-St. Louis

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Richard T. Mpoyi Middle Tennessee State University

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Chandran Mylvaganam Northwood University-Michigan

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Charles Newman University of Maryland University College

Don O. Neubaum Oregon State University

Kuei-Hsien Niu California State University, Sacramento

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Frank Novakowski Davenport University

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Kenny (Kyeungrae) Oh University of Missouri- St. Louis

Don A. Okhomina Fayetteville State University

Kevin J. O’Mara Elon University

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xxiv THANK YOU . . .

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Antoaneta Petkova San Francisco State University

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Robert Porter University of Central Florida

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Krishnan Ramaya College of Business, Pacific University

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Simon Rodan San Jose State University

Elton Scifres Stephen F. Austin State University

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THANK YOU . . . xxv

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Laura Whitcomb California State University, Los Angeles

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Yanfeng Zheng The University of Hong Kong

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Required=Results

®

McGraw-Hill Connect® Learn Without Limits Connect is a teaching and learning platform that is proven to deliver better results for students and instructors.

Connect empowers students by continually adapting to deliver precisely what they need, when they need it, and how they need it, so your class time is more engaging and effective.

Mobile

Connect Insight® Connect Insight is Connect’s new one-of-a-kind visual analytics dashboard—now available for both instructors and students—that provides at-a-glance information regarding student performance, which is immediately actionable. By presenting assignment, assessment, and topical performance results together with a time metric that is easily visible for aggregate or individual results, Connect Insight gives the user the ability to take a just-in-time approach to teaching and learning, which was never before available. Connect Insight presents data that empowers students and helps instructors improve class performance in a way that is efficient and effective.

88% of instructors who use Connect require it; instructor satisfaction increases

by 38% when Connect is required.

Students can view their results for any

Connect course.

Analytics

Using Connect improves passing rates by 10.8% and retention by 16.4%.

Connect’s new, intuitive mobile interface gives students and instructors flexible and convenient, anytime–anywhere access to all components of the Connect platform.

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SmartBook® Proven to help students improve grades and study more efficiently, SmartBook contains the same content within the print book, but actively tailors that content to the needs of the individual. SmartBook’s adaptive technology provides precise, personalized instruction on what the student should do next, guiding the student to master and remember key concepts, targeting gaps in knowledge and offering customized feedback, and driving the student toward comprehension and retention of the subject matter. Available on smartphones and tablets, SmartBook puts learning at the student’s fingertips—anywhere, anytime.

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Analysis

PART 1

CHAPTER 1 What Is Strategy? 4

CHAPTER 2 Strategic Leadership: Managing the Strategy Process 32

CHAPTER 3 External Analysis: Industry Structure, Competitive Forces, and Strategic Groups 64

CHAPTER 4 Internal Analysis: Resources, Capabilities, and Core Competencies 104

CHAPTER 5 Competitive Advantage, Firm Performance, and Business Models 140

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The AFI Strategy Framework

Part 1: Analysis

Part 1: Analysis

Part 2: Formulation

1. What Is Strategy?

3. External Analysis: Industry Structure, Competitive Forces, and Strategic Groups 4. Internal Analysis: Resources, Capabilities, and Core Competencies

5. Competitive Advantage, Firm Performance, and Business Models

6. Business Strategy: Differentiation, Cost Leadership, and Blue Oceans 7. Business Strategy: Innovation and Entrepreneurship

8. Corporate Strategy: Vertical Integration and Diversification 9. Corporate Strategy: Strategic Alliances, Mergers and Acquisitions

10. Global Strategy: Competing Around the World

11. Organizational Design: Structure, Culture, and Control

Getting Started

External and Internal Analysis

Formulation: Business Strategy

Formulation: Corporate Strategy

Implementation Gaining &

Sustaining Competitive Advantage

12. Corporate Governance and Business Ethics

2. Strategic Leadership: Managing the Strategy Process

Part 3: Implementation

Part 2: Formulation

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Chapter 1

What Is Strategy?

Chapter Outline

1.1 What Strategy Is: Gaining and Sustaining Competitive Advantage What Is Competitive Advantage? Industry vs. Firm Effects in Determining Firm Performance

1.2 Stakeholders and Competitive Advantage Stakeholder Strategy Stakeholder Impact Analysis

1.3 The AFI Strategy Framework

1.4 Implications for the Strategist

Learning Objectives

LO 1-1 Explain the role of strategy in a firm’s quest for competitive advantage.

LO 1-2 Define competitive advantage, sustainable competitive advantage, competitive disad- vantage, and competitive parity.

LO 1-3 Differentiate the roles of firm effects and industry effects in determining firm performance.

LO 1-4 Evaluate the relationship between stakeholder strategy and sustainable competitive advantage.

LO 1-5 Conduct a stakeholder impact analysis.

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Does Twitter Have a Strategy?

TWITTER IS NOT FLYING HIGH. In the summer of 2015, Twitter’s stock price was 50 percent lower than what it was shortly after the social networking service went pub- lic November 7, 2013. Twitter’s disappointing performance led to the departure of its CEO, Dick Costolo, who served from 2010 to 2015. Co- founder Jack Dorsey was brought back as Twitter’s CEO. With several high- profile departures and continuing unabated demo- tions, the young company faced turmoil among its executive ranks.

Launched in 2006, Twitter is often called the “SMS of the Internet” because it allows users to send short messages or “tweets” restricted to 140 characters with pic- tures and videos often attached.1 Twitter’s leader described the social media service as an “indispens- able companion to life in the moment” and “the world’s largest informa- tion network.”2 Users can follow other people on the social network. For example, Katy Perry, the American singer, song- writer, and actress, has more than 70 million followers. Justin Bieber (with 65 million) and President Barack Obama (with 60 million) round out the top three in terms of followers. When a user follows another, she can see that person’s status updates in her Twitter feed.

Twitter has some 300 million worldwide active users, that is, people who log in at least once a month. Core users

stay connected pretty much permanently, providing multi- ple status updates throughout the day. Although most tweets cover trivia, Twitter’s claim to significance rises from its role in political revolutions such as the Arab Spring or live coverage of breaking news, including the raid on Osama bin Laden’s compound in Pakistan. Twitter also appears

constantly in the mass media. TV channels show tweets of athletes, politi- cians, or other celebrities, often live during their shows. Some 20 percent of smartphone users in the United States, and close to 10 percent internationally, use Twitter regularly.

Twitter’s business model is to grow its user base and then charge advertis- ers for promoting goods and services to that base of users. Individual

users pay nothing. Their tweets give Twitter free user-generated content to drive more traffic. Com- panies pay for “promoted tweets” that are directly inserted into a user’s news stream. Advertis- ers value how Twitter can deliver their ads in real time. In one famous episode, when a blackout halted the 2013 Super Bowl for over half an hour, Nabisco promoted Oreo cookies by tweet- ing, “Power out? No

problem. You can still dunk in the dark.” Advertisers can also target their ads based on the user’s interests or loca- tion, the time of day, and so on.

Twitter faces several challenges that make its future prospects highly uncertain. Amid turnover and reshuf- fling in the management and engineering ranks, Twit- ter struggles to grow its user base. Compare Twitter’s

CHAPTERCASE 1

CEO of Square; Dick Costolo, CEO of Twitter, 2010–2015. © AP Photo/Lionel Cironneau

Jack Dorsey, co-founder and CEO of Twitter. © Thomas Samson/Getty Images

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WHY IS TWITTER STRUGGLING? In contrast, why are Facebook and Google so successful? For that matter, why is any company successful? What enables some

firms to gain and then sustain their competitive advantage over time? Why do once-great firms fail? How can managers influence firm performance? These are the big questions that define strategic management. Answering these questions requires integrating the knowledge you’ve obtained in your studies of various business disciplines to understand what leads to superior performance, and how you can help your organization achieve it.

Strategic management is the integrative management field that combines analysis, formulation, and implementation in the quest for competitive advantage. Mastery of strategic management enables you to view a firm in its entirety. It also enables you to think like a general manager to help position your firm for superior performance. The AFI strategy framework (shown on page 3) embodies this view of strategic management. It will guide our exploration of strategic management through the course of your study.

In this chapter, we lay the groundwork for the study of strategic management. We’ll introduce foundational ideas about strategy and competitive advantage and then con- sider the role of business in society. Next, we take a closer look at the components of the AFI framework and provide an overview of the entire strategic management process. We conclude this introductory chapter, as we do with all others in this text, with a sec- tion titled “Implications for the Strategist.” Here we provide practical applications and considerations of the material developed in the chapter. Let’s begin the exciting journey to understand strategic management and competitive advantage.

1.1 What Strategy Is: Gaining and Sustaining Competitive Advantage Strategy is a set of goal-directed actions a firm takes to gain and sustain superior performance relative to competitors.5 To achieve superior performance, companies compete for resources: New ventures compete for financial and human capital. Existing companies compete for profitable growth. Charities compete for donations, and universi- ties compete for the best students and professors. Sports teams compete for championships, while celebrities compete for media attention. As highlighted in the ChapterCase, Twitter is competing for more users against other social media such as SnapChat, Facebook and its messaging service WhatsApp,and others. In any competitive situation, therefore, a good strategy enables a firm to achieve superior performance. This leads to the question: What is a good strategy?

A good strategy consists of three elements:6

1. A diagnosis of the competitive challenge. This element is accomplished through analysis of the firm’s external and internal environments (Part 1 of the AFI framework).

strategic management An integrative management field that combines analysis, formulation, and implementation in the quest for competitive advantage.

LO 1-1

Explain the role of strategy in a firm’s quest for competitive advantage.

strategy The set of goal-directed actions a firm takes to gain and sustain superior performance relative to competitors.

300 million monthly users to Facebook’s 1.5 billion. Twitter needs a larger user base to attract more online advertisers and better monetize its social media service. When serv- ing as CEO, Costolo made the tweet-worthy declaration that Twitter’s “ambition is to have the largest audience in the world.”3 Yet, the trend runs in the opposite direction as Twitter’s user growth has slowed considerably while Facebook is getting even larger, with a steep rise in users

on mobile devices. If Twitter fails to grow in user size to increase the value of the communication platform for online advertisers, it might become either a takeover tar- get for much larger digital advertising companies such as Google or be overtaken by a new social media news app.4

You will learn more about Twitter by reading the chapter; related questions appear on page 23.

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CHApTER 1 What Is Strategy? 7

2. A guiding policy to address the competitive challenge. This element is accomplished through strategy formulation, resulting in the firm’s corporate, business, and functional strategies (Part 2 of the AFI framework).

3. A set of coherent actions to implement the firm’s guiding policy. This element is accomplished through strategy implementation (Part 3 of the AFI framework).

Let’s revisit ChapterCase 1 to see whether Twitter is pursuing a good strategy. A quick rereading indicates that Twitter appears to be underperforming, and thus its strategy does not seem to be a good one. Let’s take a closer look at the three elements of a good strategy to see how Twitter’s CEO could turn a bad strategy into a winning one.7

THE COMpETITIVE CHALLENGE. A good strategy needs to start with a clear and critical diagnosis of the competitive challenge. ChapterCase 1 indicates that the biggest competitive challenge for Twitter is to grow its user base to become more valuable for online advertisers. With some 300 million active users compared to Facebook’s roughly 1.5 billion monthly users, Twitter is viewed by advertisers as a niche application. Compa- nies direct the bulk of their digital ad dollars to Facebook and Google rather than Twitter. Moreover, Twitter suffers in comparison to Facebook for reasons other than sheer scale. Facebook allows advertisers to target their online ads much more precisely based on a host of demographic data that the social network collects and infers about each user, including birth year, university affiliation, network of friends, interests, and so on.