Chapter 5    

Competitive Advantage and Functional Level Strategies

Chapter 5 Review Questions:

--    What are the primary and support functions in organizations?

--    How does superior manufacturing technique benefit the firm? 

--    How does defection rate effect the firm?

--    What do the terms MES and Experience curve mean? 

--    What is the main purpose of TQM?

--   Functional-level strategies improve the effectiveness of functional operations within a company.

The Value Creation Process

--    To gain competitive advantage:  

1. Perform value-creation functions  at a lower cost than its rivals or ,

2. Perform them in a way that leads to differentiation and a premium price.

The Value Chain, Figure 5.1.

--    Primary activities:   physical creation, marketing, delivery to consumers, after-sales service, support

--     Manufacturing,   marketing.

--    Support activities provide inputs that allow the primary activities to take place.

--     Materials management, R&D, HR, IS, company infrastructure.

Building Blocks and Value Chain

--     Building blocks cut across the different value-creation functions of a company.

--     They are goals whose attainment requires substantial cross-functional integration.

1.  Achieving Superior
     Efficiency

--    Efficiency = cost of inputs required to produce a given output.

--    Efficient company has higher productivity than rivals, therefore, lower costs.

Economies of scale.

--     Unit-cost reductions associated with a large scale of output.

--     Don’t continue indefinitely, beyond minimum efficient scale (MES).

--     Sources of Economy of scale:

1. spreading fixed costs over large volume

2. greater division of labor and specialization

3. employee  productivity, skill enhancement

4. Learning effects

5. Management efficiency increases

The experience curve

--    Refers to systematic unit-cost reductions observed to occur over the life of a product.

--    Unit manufacturing costs decline by some characteristic amount each time accumulated output of the product is doubled.

Learning effects + Scale Economies = Experience Curve

--     Unit costs fall with increases in accumulated output over time.

--     Increasing product volume, market share = cost advantage over competition.

--     If a company wishes to attain a low-cost position, it must ride down the experience curve as quickly as possible.

--     HOW?

How do companies “ride the experience curve”?

--    Build efficient scale plants in forecast of higher demand

--    Aggressively pursue learning effects (skill enhancement, mgmt. efficiency.)

--    Aggressive cut prices and aggressive marketing to expand sales

Perishability of Learning effects, experience curve advantage:

--    Neither learning effects nor economies of scale go on forever. 

--    Experience curve bottoms out at some point.

--    Other companies can catch up with the cost leader, forcing all in industry to minimize production costs.

Perishability, continued...

--    cost advantages gained from experience effects ca-- be made obsolete whe-- new technology appears.

--    High volume does not ALWAYS provide cost advantages, e.g., steel industry, regional breweries.

There are several exceptions to the Experience Curve Phenomenon:

--    Micro-breweries, mini-mills -- systems DESIGNED for low volume.

--    Flexible manufacturing systems

Trade Off in Economy of Scale Situations

--    Tradeoff is one between unit costs and product variety.

Flexible manufacturing:

--    Cover a range of manufacturing technologies that are designed to

a. reduce setup times

b. increase utilization of individual machines through better scheduling.

c. improve quality control at all stages of the manufacturing process.

Bottom line benefit of FMS:

--    Allows company to produce a wider variety of end products at a unit cost that at one time could only be achieved through the mass production.

Toyota’s FMS = Lean production

--     Lean production has been credited with making Toyota the most efficient auto company in the global industry.

Problems with previous system: 

--     Long production runs, inventories.

--     Defects, waste

--     System unable to accommodate consumer preferences.

How did Toyota fix problems?

Reduced setup times for production equipment (a major source of fixed costs).

--    System of levers and pulleys to reduce the time required to change dies on stamping equipment from a full day in 1950 to three minutes by 1971.

Toyota, continued...

--    Made small production runs economical, enabled attention to customer preferences.

--    Small runs eliminated need to hold large inventories, thereby reducing warehousing costs.

--    Small runs and the lack of inventory meant that defective parts were produced only in small numbers, easier to trace.

Machine Cells:

--     Groupings of various types of machinery, a common materials handler, and a centralized cell controller (computer).

--     4 to 6 machines capable of performing a variety of operations.

--     Dedicated to production of a family of parts or products.

--     Settings are computer controlled,   allows each cell to switch between production of different parts or products.

Machine Cells, continued... 

Benefits:

--    Improved capacity utilization and reductions in work in progress and waste.

--    Tight coordination between machines reduces work in progress.

--    Reductions in waste arise from ability of computer-controlled machinery to identify how to transform inputs into outputs.

Marketing strategy & Efficiency

--     Riding down the experience curve to gain a low-cost position can be facilitated by aggressive pricing, promotions, and advertising.

--     Reduction of customer defection rates to achieve cost economies.

--     Reducing defection rates by 5 percent  increases profit per customer from 25 to 85 percent.

Materials Management & Efficiency

--     (JIT) inventory systems economize on inventory-holding costs by having materials arrive at a manufacturing plant just in time to enter the production process.

Savings from JIT Systems:

--    Saving comes from increasing inventory turnover, which reduces inventory-holding costs, such as warehousing and storage costs.

--    Drawback of JIT systems is that they leave a firm without a buffer stock of inventory, e.g., recent WSJ article about Japanese firm.

R&D strategy and efficiency

--     R&D function can boost efficiency by designing products that are easy to manufacture.

--     Helps a company achieve greater efficiency by pioneering process innovations, e.g., Toyota, in the automobile industry.

Do firms need R & D to achieve highly innovative products?  Good reputation?

--    Not according to Fortune magazine, who reports that firms are using other mechanisms to achieve innovation.

--    Used these assessments to name best firms of 1996.

Human resources strategy and efficiency

--     The more productive employees are, the lower will unit costs be.

--     Skilled workers promote efficiency, therefore TRAINING is important.

--     Self-managed teams (5 - 7) all learn team tasks, rotate from job to job

--     Teams decide on work and vacation schedules, ordering materials, hiring.

--     Bonuses linked to production, quality targets.

Infrastructure (LEADERSHIP) and efficiency

--     Commitment to efficiency can be built through top management leadership.

--     Leadership can also  facilitate cooperation among functions in the pursuit of efficiency goals.

2.  Achieving Superior
     Quality

(2) advantages:

--    First, reputation for quality allows company to charge a premium price.

--    Second, elimination of defects, superior quality results in greater efficiency and hence lower costs.

Total Quality Management (TQM)

--     Philosophy takes as central focus the need to raise the quality of a company's products and services.

--     Based on (5) steps:

1. Less rework, fewer mistakes, delays, and better use of time and materials = < costs.

2.  Productivity improves.

3.  Better quality leads to > market share,  > prices.

4. Increases company's profitability, provides stability, survival.

5. More jobs created

TQM themes that work:

--     Close cooperation between all functions

--     Organizational commitment to quality.

--     Focusing on the customer. Finding ways to measure quality.

--     Setting goals and creating incentives based on group’s accomplishments.

--     (Cognitive Evaluation Theory says this is BAD... intrinsic goals are the BEST.)

--     Design for ease of manufacture.

How did TQM improve service and control costs at Intermountain Health Care?

--    Started by identifying variations in practice across physicians, with regard to the cost and success rate of treatments.

--    Next step was for the physicians to use the data to eliminate poor practices and generally upgrade the quality of medical care.

Results were striking:

--     In 1985, the hospital's postoperative infection rate was 1.8 percent—0.2 points below the national average but still unacceptably high from a TQM perspective. By using a bedside computer system to make sure that antibiotics were given to patients two hours before surgery, the hospital dropped the infection rate in half, to 0.9 percent, then to 0.4%.

--     Postoperative infection adds $14,000 to a hospital bill, this constitutes a big cost saving.

3. Achieving Superior Innovation

--     Successful innovation of products or processes gives a company something unique.

--     R&D is a high-risk, high-return strategy.

   (80 percent to 88 percent of new products fail to make a profit).

Why do so many new products fail to generate returns?  (4) Reasons:

1.  uncertainty.

2. Poor commercialization

--    intrinsic demand for new technology, but technology isn’t well adapted to needs.

3.  Low overall demand

--    e.g., the Anglo-French supersonic jetliner, Concorde).

4. Too slow getting products to market.

Why did Apollo Computer lose its lead as an innovator in the market for computer workstations?

--     Created the market for engineering computer workstations in 1980.

--     Sun Microsystems, entered in 1982. By 1988 Apollo had lost lead in market to Sun.

--     WHY?

--     Slow cycle time.

--     Sun introduced new product every 12 months, doubled power of  workstations every eighteen months ,on average.

(4) Steps to Building innovation competencies

1. Skills in basic and applied research.

2. Integrating R&D and marketing.

        Crucial if a new product is to be properly

        commercialized.

3. Integrating manufacturing and R&D.

           The critical task is to design products

           that are easy to manufacture.

4. Project management.

4.  Achieving Customer
     Responsiveness

--    Give customers what they want when they want it—so long as the company's long-term profitability is not compromised in the process.

--    Leads to brand loyalty, and in turn, to ability to charge premium price, or sell more goods and services to customers.

--     Customer focus must start at the top of the organization with leadership.

--     All employees see the customer as the focus of their activity, TRAINING.

--     Next task is to satisfy customer needs so identified.

--     Customize the product,

--     Minimize the time it takes to respond to customer demands.

Why cut response time?

--    To gain a competitive advantage a company often needs to be fast at responding to consumer demands. Increased speed allows a company to charge a significant premium.