Chapter 6 Competitive Rivalry and Competitive Dynamics

Actor’s Reputation

Dependence on the Market

Competitive Dynamics

Slow-Cycle Markets

Fast-Cycle Markets

Standard-Cycle Markets Summary

Knowledge Objectives

1. Define competitors, competitive rivalry, competitive behavior, and competitive dynamics.

2. Describe market commonality and resource similarity as the building blocks of a competitor analysis.

3. Explain awareness, motivation, and ability as drivers of competitive behavior.

4. Discuss factors affecting the likelihood a competitor will take competitive actions.

5. Discuss factors affecting the likelihood a competitor will respond to actions taken against it.

6. Explain competitive dynamics in slow-cycle, fast-cycle, and standard-cycle markets.

Lecture Notes

See slides 1-4.

Key Terms

▪ Competitors - firms operating in the same market, offering similar products and targeting similar customers.

See Figure 6.1: From Competitors to Competitive Dynamics (slide 5)

▪ Competitive Rivalry - ongoing set of competitive actions and competitive responses occurring between competitors as they contend with each other for an advantageous market position.

▪ Competitive Behavior - set of competitive actions and competitive responses the firm takes to build or defend its competitive advantages and to improve its market position.

▪ Competitive Dynamics - total set of actions and responses all firms competing within a market take.

See Additional Notes Below

▪ Multimarket Competition - firms competing against each other in several product or geographic markets.

Additional Discussion Notes for Competitive Rivalry - These notes include additional materials that cover the concept of competitive rivalry, including an example illustrating the signals and rules of engagement in the airline industry and an example of personality-driven competition in the electronics industry.

From Competitors to Competitive Dynamics

Firms use a variety of tactics to draw out and assess the competition. For example, rivals frequently signal their “rules of engagement,” which involves letting the competition know one’s intentions and to draw the competition out and examine how it responds. To examine how the competition responds, or to test its counter moves, a firm can always bluff. Signaling and rules of engagement in the airline industry are rather clear and common. a. Competitor Analysis b. Drivers of Competitive Behavior c. Interim Rivalry d. Outcomes a. The mutual interdependence of competitors’ actions. b. The intensity of rivalry within a market. a. The total number of competitors b. Market characteristics c. Quality of individual firms’ strategies d. Drivers of competitive behavior

As an example, Delta was known for briefly lowering fares significantly on a particular route, say Atlanta to Los Angeles, in response to another carrier lowering the fares on the same route. The signal: “If you want to lower fares on this route, you are in for a bloody battle.” The other airline most often responded by raising fares along this route because Delta had the resources to enter into a long and grueling fare war on the route. If, on the other hand, rivals reacted by lowering fares even further, Delta had to interpret this signal as “they wished to compete with us for business along this route.” Of course, not all types of signaling are legal, but here are a couple of common signals: price movements, prior announcements (“we’ll meet or beat any competitor’s price”), media (press releases), counterattacks/moves, announcement of results, and litigation. Strategists must also note that firms might get into competitions that are not economically driven, but rather are personality driven. These competitive rivalries are based on an initial competition for resources or revenues but that over time can become personal battles between CEOs. Sony and Matsushita have been battling for world dominance in the consumer electronics industry for decades. The rivalry has become so personal between the two CEOs that they refuse to attend the same dinner parties or events. It escalated to the point where in 1989, after Sony’s Akio Morita closed the deal to purchase Columbia Pictures for $3.4 billion, Matsushita’s Masaharu Matsushita, not willing to be oneupped by his rival, responded by purchasing MCA for $6.1 billion less than a year later.

Understanding competition is important, as research shows that intensified rivalry within an industry may result in decreased industry average profitability. As discussed in the textbook, in 2001, Dell launched an intense price war in the PC and server business, causing prices to drop by as much as 50%. Profit margins declined for all firms, including Dell. CEO Michael Dell believed that his direct-sales model would enable Dell to better endure its own reduced profitability than rivals who seek economies of scale could. Competitors, however, responded to Dell’s pricing competitive action. For example, to increase their advantage from economies of scale and scope, Hewlett-Packard’s merged with Compaq Computer Corporation. While it remains to be seen whether the new HP would be able to sustain the intense rivalry, Dell’s strategy may contribute to its ability to outperform its rivals. Indeed, it has been suggested that Dell sets the pace for the PC industry, reflecting the strength of its direct sales strategy, and its superior cash flow management.

A Model of Competitive Rivalry - This section presents a straightforward, yet integrative, model of competitive rivalry at the firm level to provide a useful way to discuss the various aspects of competitive dynamics.

See Figure 6.2: A Model of Competitive Rivalry (slide 6).

1. Describe the major components of the competitive rivalry model.

2. How do the patterns of action and response that result in competitive rivalry influence a firm’s business-level strategy?

See slide 7.

3. What determines the intensity of rivalry within a market?

Competitor Analysis - This section discusses how the concept of competitor analysis was addressed earlier in the text and is now extended to describe what firms study as the first step to being able to predict competitors’ behavior in the form of its competitive actions and responses.

See slide 8 a. Market commonality - the number of shared markets b. Resource similarity - the similarity in resources

4. What determines the extent to which firms are competitors?

Market Commonality - This section presents the concepts of market commonality, multi-market competition and how the potential to respond competitively across markets complicates and impacts the rivalry between competitors

See slide 9. Key Terms

▪ Market Commonality - number of markets with which the firm and a competitor are jointly involved and the degree of importance of the individual markets to each.

Additional Discussion Notes for Competitor Analysis - These notes include additional materials that cover market commonality, providing several marketplace situations that illustrate the concept.

Market Commonality

Firms with high market commonality and highly similar resources are direct and mutually acknowledged competitors. However, direct rivals do not always intensify their competition. The drivers of competitive behavior as well as the likelihood that a competitor will initiate competitive actions or reactions influence the intensity of rivalry, even for direct competitors.

Market Commonality is concerned with the number of markets with which the firm and a competitor are jointly involved and the degree of importance of the individual markets to each. For example, McDonald’s and Burger King compete against each other in multiple global fast-food markets, while Prudential and Cigna (financial/insurance) compete against each other in several market segments (institutional and retail) as well as product markets such as life insurance and health insurance. Airlines, chemicals, and pharmaceuticals are other industries in which firms often simultaneously engage each other in multiple market competitions. More recently AOL and Microsoft entered into a stiff competition for Internet Service Provider (ISP) dominance. The key to ISP profits is in selling add-ons and auxiliary products and services to its customers. AOL has a significant size advantage with 31 million subscribers to Microsoft’s seven million. The rivalry between the two firms for customers is becoming increasingly intense. When AOL increased rates, Microsoft responded by holding its rates and offering three free months to new subscribers. AOL responded by initiating negotiations with PC manufacturers to install AOL on new PC desktops. The two firms also compete for the instant messaging application market. While AOL pioneered the concept, Microsoft developed many added features and optimized its application. In an effort to capture even greater market share Microsoft began to bundle MSN Messenger with its newest Windows operating system, Windows XP. While research suggests that market commonality and multimarket competition may occur by chance, once it begins, the rivalry becomes intentional and oftentimes intense.

Resource Similarity - This section presents the concept of resource similarity, how firms with similar types and amounts of resources are likely to have similar strengths, weaknesses, and strategies, and the difficulty of assessing competitor resources (particularly, intangible resources).

See slide 10. Key Terms

▪ Resource Similarity - extent to which the firm’s tangible and intangible resources are comparable to competitors’ resources in terms of both type and amount

See Figure 6.3: A Framework of Competitive Analysis (slide 11) a. Referring to Figure 6.3, firms in Quadrant I are direct and mutually-acknowledged competitors. b. Referring to Figure 6.3, firms in Quadrant III share few markets and have little resource similarity.

See Additional Notes Below.

5. Discuss how mapping a firm’s competitor analysis can show the extent to which firms in an industry compete.

Additional Discussion Notes for Competitor Analysis - These notes include additional materials that cover resource similarity, providing marketplace situations that illustrate the concept.

Resource Similarity

Resource Similarity is the extent to which the firm’s resources are comparable to a rival’s in terms of both type and amount. Firms with similar types and amounts of resources tend to have similar strengths and weaknesses and use similar strategies. The rivalry between CVS and Walgreens demonstrates these expectations in the retail pharmacy business. These firms are using the integrated cost leadership/differentiation strategy to offer relatively low-cost goods with some differentiated features, such as services. Resource similarity (net income of $746 million for CVS vs. $776.9 million for Walgreens; 4,133 CVS stores in 34 states vs. 3,165 Walgreens stores in 43 states) suggests that the firms might suffer from strategy convergence and industry orthodoxy.

Drivers of Competitive Actions and Responses - This section discusses the factors that influence competitive behavior.

See slides 12 a. Awareness - extent to which competitors recognize the degree of their mutual interdependence (resulting from market commonality and resource similarity) and the potential consequences of competitive behavior. b. Motivation - firm’s incentive to take action or to respond to a competitor’s attack as it relates to perceived gains and losses. c. Ability - firm’s resources that allow competitive action and flexible responsiveness. d. Resource dissimilarity - resource disadvantages that delay speed of response to competitive actions.

6. What are the drivers of competitive behavior?

See Additional Notes Below.

Additional Discussion Notes for Competitor Analysis - These notes include additional materials that cover resource similarity, providing marketplace situations that illustrate the concepts.

Resource Dissimilarity

Resource Dissimilarity also influences competitive actions and responses between firms. For example, Wal-Mart initially used its costleadership strategy to compete only in small communities (population of 25,000 or less). Using logistics systems and extremely efficient purchasing practices as competitive advantages, Wal-Mart created what was at that time a new type of value wide selections of products at the lowest competitive prices for customers in small retail markets. Local stores lacked the ability to marshal resources at the pace required to respond quickly and effectively. However, even when facing competitors with greater resources or ability, firms should respond, no matter how daunting doing so seems. Choosing not to respond can ultimately result in failure (or greater failure), as happened with many local retailers who didn’t respond to Wal-Mart’s competitive actions.

Competitive Rivalry - This section highlights the importance of studying the ongoing competitive action-response sequence between competitors because of its effect on performance and the successful use of strategies Understanding competitors’ awareness, motivation, and ability helps to predict the likelihood of competitive action and response.

Strategic and Tactical Actions - This section defines the nature of competitive actions and responses used by firms engaged in competitive rivalry.

See slide 13. Key Terms a. Strategic actions/responses are market-based moves that signify a significant commitment of organizational resources to pursue a specific strategy. They are difficult to implement and reverse. b. Tactical actions/responses are market-based moves taken to fine-tune a strategy that is already in place, involving fewer resources. They are relatively easy to implement and reverse. a. First mover incentives b. Organizational size c. Quality

▪ Competitive Action - strategic or tactical action the firm takes to build or defend its competitive advantages or improve its market position.

▪ Competitive Response - strategic or tactical action the firm takes to counter the effects of a competitor’s action.

▪ Tactical Action (or Response) - market-based move that is taken to fine-tune a strategy.

See slide 14. 7. What are the differences between strategic and tactical actions/responses?

Likelihood of Attack - This section presents factors (other than market commonality, resource similarity, and the drivers of competitive behavior) which affect the likelihood a firm will use strategic and tactical actions to attack its competitors.

See slide 15 8. What other factors affect the likelihood a firm will use strategic and tactical actions to attack its competitors?

First Mover Incentives - This section categorizes the firms within a marketplace based on the timing of their competitive behavior How this timed behavior affects their strategy is also discussed.

See slides 16-17. Key Terms a. Often build upon a strategic foundation of superior research and development skills. b. Tend to be aggressive and willing to experiment with innovation. c. Tend to take higher, yet reasonable, risks. d. Need to have liquid resources (slack) that can be quickly allocated to support actions. a. Above-average returns b. Customer loyalty c. An early hold on market share a. Difficult to accurately estimate potential returns. b. Substantial costs of product innovation, which reduces slack available for other opportunities. c. Lower likelihood of introducing (or converting to) the product that becomes the industry standard as the market evolves. a. Respond to first mover, typically through imitation. b. More cautious than first movers. c. Tend to study customer reactions to product innovations. d. Tend to learn from the mistakes of first movers, reducing their risks. e. Take advantage of time to develop processes and technologies that are more efficient than first movers, reducing their costs. f. Will not benefit from first mover advantages, lowering potential returns. a. Respond to market opportunities only after considerable time has elapsed after first and second movers, substantially reducing risks and returns.

▪ First Mover - firm that takes an initial competitive action to build or to defend its competitive advantages or to improve its market position.

▪ Second Mover - firm that responds to the first mover’s competitive action, typically through imitation.

▪ Late Mover - firm that responds to a competitive action, but only after considerable time has elapsed after the first mover’s action and the second mover’s response.

▪ Slack - buffer or cushion provided by actual or obtainable resources not being currently used by an organization, resources in excess of the minimum needed to produce a given level of output.

See slide 18. 9. What are some of the characteristics of first movers?

10. What are some of the potential benefits of being a successful first mover?

11. What are some of the potential risks of being a first mover in the market?

12. Compared to first movers, what are some of the characteristics of second movers?

13. Compared to first and second movers, what are some of the characteristics of late movers?

Organizational Size - This section describes how an organization’s size affects its likelihood of taking competitive actions.

See slides 23-24 a. Small firms are nimble and flexible competitors who rely on speed and surprise to defend their competitive advantage. This allows greater variety of competitive behavior options available to the small firm. b. Large firms have a greater likelihood to initiate competitive and strategic actions over time because they often have greater slack. However, they tend to rely on a limited variety of competitive actions, which can ultimately reduce their competitive success.

1. What is the difference between large and small firms in terms of their likelihood of taking competitive actions?

Quality - This section describes how quality affects competitive rivalry and the need for managers to create an organizational culture that focuses on quality across all value chain activities.

See slides 25. Key Terms a. Product quality dimensions - performance, features, flexibility, durability, conformance, serviceability, aesthetics, perceived quality. b. Service quality dimensions - timeliness, courtesy, consistency, convenience, completeness, accuracy. a. Types and effectiveness of the competitive action b. Reputation of the firm making competitive actions c. Dependence on the market d. Whether the action significantly strengthens or weakens the firm’s competitive position

▪ Quality - customer perception that the firm’s goods or services perform in ways that are important to the customer, meeting or exceeding customers’ expectations.

See Table 6.1: Quality Dimensions of Goods and Services (slide 26).

14. What are some examples of product dimensions that customers use to measure quality?

Likelihood of Response - This section presents factors (other than market commonality, resource similarity, and the drivers of competitive behavior) which affect the likelihood a firm will competitively respond to actions by its competitors.

See slide 27 15. What other factors affect how a firm is likely to respond to actions by its competitors?

Type of Competitive Action - This section explains that strategic actions generally elicit fewer responses than tactical actions because of the significant resource commitment and the amount of time needed for implementation

Actor’s Reputation - This section discusses how a firm’s reputation to its competitors influences the likelihood of a competitive response to their competitive actions.

See slide 28. Key Terms

▪ Actor - firm taking an action or response (in the context of competitive rivalry).

▪ Reputation - positive or negative attribute ascribed by one rival to another based on past competitive behavior.

Additional Discussion Notes for Actor Reputation - These notes include additional materials that cover the impact of actor’s reputation on competitive response, providing marketplace situations that illustrate the concept.

Actor Reputation

Competitors are more likely to respond to strategic and tactical actions taken by market leaders. For example, Home Depot the world’s largest home improvement retailer and the second largest U.S. retailer (behind Wal-Mart) is known as an innovator in the home improvement market and for its ability to develop new store formats (EXPO Design Centers and Villager’s Hardware Stores). As such, Home Depot knows that its rivals study its strategic actions and respond to them. For example, watching Home Depot, Lowe’s has transformed from a chain of small stores into a chain of home improvement warehouses, thus increasing the similarity of its store design with Home Depot’s. Similarly, evidence shows that successful strategic actions are quickly imitated, almost regardless of the actor’s reputation. For example, although a second mover, IBM committed significant resources to enter the PC market. When IBM succeeded in this endeavor, rivals (Dell, Compaq, and Gateway) responded with strategic actions (imitation) to enter the market. IBM’s reputation as well as its successful strategic action strongly influenced entry by these competitors. Thus, in terms of competitive rivalry, IBM could predict that responses would follow its entry to a market if that entry proved successful. In addition, IBM could predict that those competitors would try to create value in slightly different ways, such as Dell’s direct sales and built-to-order rather than to use storefronts as a distribution channel.

Dependence on the Market - This section describes why competitors with high market dependence are likely to respond strongly to attacks threatening their market position.

See slide 29. Key Terms

▪ Market Dependence - extent to which a firm’s revenues or profits are derived from a particular market.

Competitive Dynamics - This section explains the effects of varying rates of competitive speed in different markets on the behavior of all competitors within a given market. Sustainability of competitive advantage is an important difference among the three market types that are outlined.