CHAPTER 2
MANAGING INDUSTRY COMPETITION
CHAPTER OUTLINE
I. OPENING CASE: Emerging Markets: Competing in the Indian Airline Industry
A. China has the second largest domestic airline market, but India has the potential to grow:
70 million passengers in 2014 is expected to be 160 million by 2020
B. Domestic carriers have difficulty making money, despite potential market size, due to
state taxes on jet fuel, regulations, and intense competition
C. Airlines are notorious for “turning billionaires into millionaires” and India is no
exception:
D. Airlines remain optimistic
1. As incomes rise, people fly more
2. Flying is alternative to crowded trains and bumpy roads
E. Some international airlines want to enter the market, and Indian government announced
in 2012 that it would allow FDI as long it did not exceed 49%
1. AirAsia is a joint venture between Malaysia’s AirAsia and India’s Tata Group. It
avoids the New Delhi-Mumbai route, crowded with domestic carriers, and focuses on
serving South Indians who normally rely on rail
II. DEFINING INDUSTRY COMPETITION
A. Industry: group of firms producing goods and/or services that are similar to each other
B. Theories of industry competition
1. Perfect competition:
a. Price set by the market
2. Industrial organization (IO) economics model—structure-conduct-performance (SCP)
model
a. Structure refers to the structural attributes of an industry (such as the costs of
entry/exit)
Chapter 2 Managing Industry Competition
D. The industrial organization (IO) helps policymakers better understand how firms compete
in order to properly regulate them
E. Industries can be divided according to the number of firms
1. Monopoly: from thousands of small firms in perfect competition to only one firm
2. Oligopoly: very few firms competing
3. Duopoly: only two competitors
III. THE FIVE FORCES FRAMEWORK
A. From Economics to Strategy
1. In 1980, Michael Porter translated and extended the Structure-Conduct-Performance
(SCP) model of IO Economics to strategic management
2. Key proposition: firm performance depends on the degree of competitiveness of the
five forces within an industry
2. Conditions that lead to intense rivalry
a. Number of competitors
b. Similarity of firms in terms of size, market influence, and product offerings
c. Products are big ticket items and purchased infrequently, making it hard for one
firm to dominate
d. New capacity must be added in large increments; creates over-capacity, which
leads to price cutting
e. Slow industry growth or decline in demand
f. High exit costs – investment in specialized assets may prevent exit
C. Second force: Threat of Potential Entry
1. Incumbents create entry barriers to keep new entrants out
c. Product proliferation to leave little unmet demand
d. Product differentiation – uniqueness of products that adds value for customers
(i) Brand identification
(ii) Customer loyalty
(iii)Possible retaliation by incumbents; made possible by excess capacity
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e. Government policy and regulation
D. Third force: Bargaining Power of Suppliers – ability to raise prices and/or reduce quality
1. Dominance of supplier industry by a few firms
E. Fourth force: Bargaining Power of Buyers – ability to reduce prices and/or increase
quality
1. Small number of buyers
2. Products of the industry do not produce clear cost advantages or enhance quality of
life for buyers
F. Fifth force: Threat of Substitutes – products from different industries that satisfy
customer needs being met by focal firms
1. Substitutes are superior to existing products in terms of quality or functionality
2. Low switching costs
G. Lessons from the Five Forces Framework
1. Not all industries are equal in terms of profit potential. The pharmaceutical industry is
likely to remain more profitable than the airline industry
IV. THREE GENERIC STRATEGIES – Can strengthen focal firm’s position relative to the
five forces
A. Cost Leadership
1. Firm’s theory about how to compete successfully centers on low costs and low prices
2. Offer better value to customers
3. Target average customers for mass market – little differentiation
4. Key functional areas are manufacturing and materials management
B. Differentiation
1. Deliver products that customers perceive to be valuable and different
2. Target customers in smaller, well-defined segments who are willing to pay premium
prices
Chapter 2 Managing Industry Competition
3. Low volume, high margin approach
4. Differentiated products must have unique attributes (actual or perceived): quality,
sophistication, prestige, or luxury
C. Focus
1. Serves the needs of a particular segment or niche of an industry
2. Segments can be defined by geographical market, type of customer, or product line
D. Lessons from the Three Generic Strategies
1. Essence – choose whether to perform activities differently than rivals or to perform
different activities than competitors
2. Cost and differentiation are two fundamental strategic dimensions
3. Performance of firms that are stuck in the middle may suffer
V. DEBATES AND EXTENSIONS
A. Clear versus Blurred Boundaries of Industry
1. Sometimes it is hard to determine the exact boundaries of an industry; e.g.,
telecommunications
C. Five Forces versus a Sixth Force
1. Related and supporting industries (complementors) are an additional force that can
impact the competitiveness of an industry
D. Stuck in the Middle versus All-Rounder
1. If a low-cost firm has already achieved the maximum efficient scale, they must turn
to differentiation to distinguish themselves from competitors
2. Flexible manufacturing technology has enabled firms to produce differentiated
products at a low cost; mass customization may become the name of the game in the
future
E. Industry Rivalry versus Strategic Groups
2. There are often groups of firms that compete against each other
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a. Strategic groups in auto industry: mass market firms, luxury firms, and ultra
luxury firms
3. Strategies of firms within a strategic group tend to be similar, as does their
performance
4. Controversial issues with strategic groups
a. Stability of strategic groups
b. Mobility barriers between strategic groups
c. Strategic group analysis requires large quantities of objective data – how useful is
it when there is a paucity of data?
F. Integration versus Outsourcing
1. Industry-based view recommends backward or forward integration as a way to defend
against the power of suppliers and buyers
2. Integration is very expensive, so it might make sense for firms to outsource instead
G. Industry-versus Firm- and Institution-Specific Determinants of Performance
1. Recent success of firms in unattractive industries suggests that there must be firm-
specific resources and capabilities that determine firm performance
2. Industry-based view ignores the impact of industry history and institutions on firm
performance
3. Strategists need to understand how institutions affect competition
VI. THE SAVVY STRATEGIST
A. Industry-based view provides a systematic foundation for industry and competitor
analysis
B. Industry-based view provides some answers to the four fundamental questions proposed
in Chapter 1
1. Why do firms differ?
a. Five forces in different industries lead to diversity in firm behavior
3. What determines the scope of the firm?
a. Examine the relative bargaining power of the focal firm compared to
suppliers/buyers
4. What determines the international success and failure of firms?
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a. Industry specific characteristics (i.e., the five forces)
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CHAPTER TWO – LECTURE NOTES AND TEACHING TIPS
SUMMARY OF THE OPENING CASE: Emerging Markets: Competing in the Indian
Retail Industry
This opening case highlights some of the recent trends in the retail market of India and the
difficulties involved for foreign entrants in entering this market due to the FDI policy adopted by
India in this market.
Teaching Tip: Ask students to respond to the following case discussion questions (Possible
answers are included in italics):
Despite the market potential, what are issues facing Indian domestic airlines?
Market conditions make it difficult for domestic carriers to be profitable. High state taxes force
Why do airlines remain optimistic about the domestic Indian market?
Airlines remain optimistic because as people’s income increases, they fly more. The alternatives
DEFINING INDUSTRY COMPETITION
Sometimes students have difficulty grasping what the concept of industry means: they confuse
an individual firm with an industry and vice versa. In addition, the term “industry structure” is
Teaching Tip: Select an industry with which students are familiar and ask them to identify
companies that are competing in that industry. What are some of the products and services that
those companies provide that make them members of the same industry?
THE FIVE FORCES FRAMEWORK
The five forces framework forms the basis for the industry-based view of strategy. It highlights
five different industry forces that can impact the profit potential of any industry and make it
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THREE GENERIC STRATEGIES
Porter also suggested that there are three main generic strategies (i.e., theories about how to
compete successfully) that companies use to strengthen their position: cost leadership,
differentiation, and focus.
The author suggests a number of challenges or criticisms of the industry-based view of strategy
that was presented in this chapter. Each of these debates offers some valid questions about the
ability of the industry-based view to explain all performance differences among firms. For
example, in cases where it is difficult to clearly identify the boundaries of an industry (e.g.,
broadcast television industry or telecommunication), strategists might not be able to accurately
defend against powerful suppliers and buyers.
Teaching Tip: In order to help students understand the strategic implications of these criticisms
of the industry-based view, it might be helpful to ask students to work in small groups to find
specific examples that illustrate or demonstrate the aforementioned criticisms. For example:
• Identify examples of industries in which boundaries are blurred. What are common
characteristics of these industries?
Students might select the cell phone industry and suggest that the boundaries are blurring. Many
cell phones now offer portable features that used to be available only in PDAs, such as email,
Internet access, calendars, spreadsheet capabilities, digital cameras, games, etc.
Regardless of the examples identified by students, they should be able to find a few common
characteristics, such as the fact that companies in both industries satisfy similar customer needs,
and that many of the same competitors compete in both industries. Another common
characteristic is that the industries share similar technologies, distribution channels, and/or
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POSSIBLE ANSWERS TO CRITICAL DISCUSSION QUESTIONS
1. Why do price wars often erupt in certain industries (such as the automobile industry), but less
frequently in other industries (such as the diamond industry)? What can a firm do to
discourage price wars or be better prepared for price wars?
Price wars usually erupt when firms cannot easily differentiate their products from one
another. As in the PC industry today, or along certain airline routes, price wars are common
2. Compare and contrast the five forces affecting the airline industry, the fast food industry, the
beauty products industry, and the pharmaceutical industry (1) on a worldwide basis and (2) in
your country. Which industry holds more promise for earning higher returns? Why?
It is useful to compare the U.S. and Asian airline industries.
U.S. Airlines
Entrants – Moderate. There are a number of secondary airports in the U.S. looking to expand
and attract passenger jets to land. Easy to build a fleet by leasing planes.
Rivalry – High. This is a product that is still hard to differentiate. The frequent flier programs
helped a little, but people joined multiple programs, so they are not a big edge anymore.
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3. As a manager, is it ethical to threaten your suppliers? Your buyers?
Students’ answers may vary. The ethical implications of a threat depend on the nature of the
threat. Threatening while unprovoked would be ethically wrong. Also, threatening with
physical violence, even when provoked, would be unethical. But here again, the nature of the
TOPICS FOR EXPANDED PROJECTS
1. Conduct a five forces analysis of the business school industry or the higher education
industry. Identify the strategic group to which your institution belongs. Then write a paper
using this analysis to explain why your institution is doing well (or poorly) in the competition
for better students, professors, donors, and ultimately rankings.
The students should follow the outline given in #2 above for the five forces, with explanation
Chapter 2 Managing Industry Competition
2. ON ETHICS: “Excessive profits” coming out of monopoly, duopoly, or any kind of strong
market power are targets for government investigation and prosecution (for example,
Microsoft was charged by both U.S. and EU competition authorities). Yet, strategists openly
pursue above-average profits, which are argued to be “fair profits.” Do you see an ethical
dilemma here? Working in pairs, with one person performing the role of an antitrust official
3. ON ETHICS: A powerful new entrant is likely to drive a lot of smaller incumbent firms out
of business and their employees out of work. As CEO of a multinational visiting a small
country that your firm would like to enter, you face protestors organized by small firms. You
are going to be interviewed by a local journalist, who has given you a list of questions ahead
of the interview. One of the questions is: How can we be sure that the entry of your firm is
beneficial to our economy? How do you answer this question?
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