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EES&OR 483 Strategy Primer 3.0 EES&OR483

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EES&OR 483 Strategy Primer 3.0
EES&OR483 Strategy and Marketing Primer (version 3.0)
This set of "crib notes" is a review of marketing and strategy tools
and concepts that you may find useful for your project in EES&OR 483.
The intention is not to give you more work or reading material, but
rather to provide you with an aid and reference in formulating and
analyzing your problem.
All of the concepts covered in lecture and the assigned readings are
reviewed here. You might find the summaries a helpful reminder of what
the concepts are and how they can be valuable in your project. Also,
some topics found here are not covered in lectures or assigned
readings (specifically, Sections 2.2, 2.4, and 5.15.5). These are
additional topics on conceptual (i.e. MBA) marketing and strategy.
Since lectures in this project course are limited and emphasize
quantitative models for strategy, we do not have the time to cover all
the topics in class. However, if you are not already familiar with
basic marketing and strategy frameworks, we want to offer you more
exposure to them. You may find this broader exposure helpful for
several reasons:
understand the context of what is covered in lecture
properly frame your project
find leads to other concepts that may be particularly relevant to
your project
1 Generic Strategy: Types of Competitive Advantage 1
2 Conceptual Strategy Frameworks: How Competitive Advantage is Created
2.1 Porter's 5 Forces & Industry Structure 2
2.2 Core Competence and Capabilities 5
2.3 ResourceBased View of the Firm (RBV) 6
2.4 Alternative Frameworks: Evolutionary Change and Hypercompetition 7
3 Additional Tools for Strategic Thinking and Analysis 9
3.1 Game Theory 9
3.2 Options 10
3.3 Strategic Scenarios 12
3.4 Other Particularly Relevant EES&OR Core Concepts 13
4 Marketing Models for Product Strategy 14
4.1 New Product Diffusion Models 14
4.2 Conjoint Analysis 15
5 Conceptual Marketing Frameworks 17
5.1 The Four P’s of the Marketing Mix 18
5.2 MarketOriented Strategic Planning 18
5.3 Market Segmentation, Targeting, and Positioning 20
5.4 Analyzing Industries and Competitors 21
5.5 The Technology Adoption Life Cycle: Discontinuous Innovations 23
1Generic Strategy: Types of Competitive Advantage

Basically, strategy is about two things: deciding where you want your
business to go, and deciding how to get there. A more complete
definition is based on competitive advantage, the object of most
corporate strategy:
Competitive advantage grows out of value a firm is able to create for
its buyers that exceeds the firm's cost of creating it. Value is what
buyers are willing to pay, and superior value stems from offering
lower prices than competitors for equivalent benefits or providing
unique benefits that more than offset a higher price. There are two
basic types of competitive advantage: cost leadership and
Michael Porter, Competitive Advantage, 1985, p.3
The figure below defines the choices of "generic strategy" a firm can
follow. A firm's relative position within an industry is given by its
choice of competitive advantage (cost leadership vs. differentiation)
and its choice of competitive scope. Competitive scope distinguishes
between firms targeting broad industry segments and firms focusing on
a narrow segment. Generic strategies are useful because they
characterize strategic positions at the simplest and broadest level.
Porter maintains that achieving competitive advantage requires a firm
to make a choice about the type and scope of its competitive
advantage. There are different risks inherent in each generic
strategy, but being "all things to all people" is a sure recipe for
mediocrity getting "stuck in the middle".
Treacy and Wiersema (1995) offer another popular generic framework for
gaining competitive advantage. In their framework, a firm typically
will choose to emphasize one of three “value disciplines”: product
leadership, operational excellence, and customer intimacy.
Porter's Generic Strategies (source: Porter, 1985, p.12)

Porter, Michael, Competitive Advantage, The Free Press, NY, 1985.
Porter, Michael, "What is strategy?" Harvard Business Review v74,
n6 (NovDec, 1996):61 (18 pages).
Treacy, M., F. Wiersema, The Discipline of Market Leaders,
AddisonWesley, 1995.
2Conceptual Strategy Frameworks: How Competitive Advantage is Created

Frameworks vs. Models
We distinguish here between strategy frameworks and strategy models.
Strategy models have been used in theory building in economics to
understand industrial organization. However, the models are difficult
to apply to specific company situations. Instead, qualitative
frameworks have been developed with the specific goal of better
informing business practice. In another sense, we may also talk about
“frameworks” in this class as referring to the guiding analytical
approach you take to your project (i.e. decision analysis, economics,
finance, etc.).
Some Perspective on Strategy Frameworks: Internal and External Framing
for Strategic Decisions
It may be helpful to think of strategy frameworks as having two
components: internal and external analysis. The external analysis
builds on an economics perspective of industry structure, and how a
firm can make the most of competing in that structure. It emphasizes
where a company should compete, and what's important when it does
compete there. Porter's 5 Forces and Value Chain concepts comprise the
main externallybased framework. The external view helps inform
strategic investments and decisions. Internal analysis, like core
competence for example, is less based on industry structure and more
in specific business operations and decisions. It emphasizes how a
company should compete. The internal view is more appropriate for
strategic organization and goal setting for the firm.
Porter's focus on industry structure is a powerful means of analyzing
competitive advantage in itself, but it has been criticized for being
too static in an increasingly fast changing world. The internal
analysis emphasizes building competencies, resources, and
decisionmaking into a firm such that it continues to thrive in a
changing environment. Though some frameworks rely more on one type of
analysis than another, both are important. However, neither framework
in itself is sufficient to set the strategy of a firm. The internal
and external views mostly frame and inform the problem. The actual
firm strategy will have to take into account the particular challenges
facing a company, and would address issues of financing, product and
market, and people and organization. Some of these strategic decisions
are event driven (particular projects or reorgs responding to the
environment and opportunity), while others are the subject of periodic
strategic reviews.
2.1Porter's 5 Forces & Industry Structure

What is the basis for competitive advantage?
Industry structure and positioning within the industry are the basis
for models of competitive strategy promoted by Michael Porter. The
“Five Forces” diagram captures the main idea of Porter’s theory of
competitive advantage. The Five Forces define the rules of competition
in any industry. Competitive strategy must grow out of a sophisticated
understanding of the rules of competition that determine an industry's
attractiveness. Porter claims, "The ultimate aim of competitive
strategy is to cope with and, ideally, to change those rules in the
firm's behavior." (1985, p. 4) The five forces determine industry
profitability, and some industries may be more attractive than others.
The crucial question in determining profitability is how much value
firms can create for their buyers, and how much of this value will be
captured or competed away. Industry structure determines who will
capture the value. But a firm is not a complete prisoner of industry
structure firms can influence the five forces through their own
strategies. The fiveforces framework highlights what is important,
and directs manager's towards those aspects most important to
longterm advantage. Be careful in using this tool: just composing a
long list of forces in the competitive environment will not get you
very far – it’s up to you to do the analysis and identify the few
driving factors that really define the industry. Think of the Five
Forces framework as sort of a checklist for getting started, and as a
reminder of the many possible sources for what those few driving
forces could be.
Porter's 5 Forces Elements of Industry Structure (source: Porter,
1985, p.6)

How is competitive advantage created?
At the most fundamental level, firms create competitive advantage by
perceiving or discovering new and better ways to compete in an
industry and bringing them to market, which is ultimately an act of
innovation. Innovations shift competitive advantage when rivals either
fail to perceive the new way of competing or are unwilling or unable
to respond. There can be significant advantages to early movers
responding to innovations, particularly in industries with significant
economies of scale or when customers are more concerned about
switching suppliers. The most typical causes of innovations that shift
competitive advantage are the following:
new technologies
new or shifting buyer needs
the emergence of a new industry segment
shifting input costs or availability
changes in government regulations
How is competitive advantage implemented?
But besides watching industry trends, what can the firm do? At the
level of strategy implementation, competitive advantage grows out of
the way firms perform discrete activities conceiving new ways to
conduct activities, employing new procedures, new technologies, or
different inputs. The "fit" of different strategic activities is also
vital to lock out imitators. Porters "Value Chain" and "Activity
Mapping" concepts help us think about how activities build competitive
The value chain is a systematic way of examining all the activities a
firm performs and how they interact. It scrutinizes each of the
activities of the firm (e.g. development, marketing, sales,
operations, etc.) as a potential source of advantage. The value chain
maps a firm into its strategically relevant activities in order to
understand the behavior of costs and the existing and potential
sources of differentiation. Differentiation results, fundamentally,
from the way a firm's product, associated services, and other
activities affect its buyer's activities. All the activities in the
value chain contribute to buyer value, and the cumulative costs in the
chain will determine the difference between the buyer value and
producer cost.
A firm gains competitive advantage by performing these strategically
important activities more cheaply or better than its competitors. One
of the reasons the value chain framework is helpful is because it
emphasizes that competitive advantage can come not just from great
products or services, but from anywhere along the value chain. It's
also important to understand how a firm fits into the overall value
system, which includes the value chains of its suppliers, channels,
and buyers.
With the idea of activity mapping, Porter (1996) builds on his ideas
of generic strategy and the value chain to describe strategy
implementation in more detail. Competitive advantage requires that the
firm's value chain be managed as a system rather than a collection of
separate parts. Positioning choices determine not only which
activities a company will perform and how it will configure individual
activities, but also how they relate to one another. This is crucial,
since the essence of implementing strategy is in the activities
choosing to perform activities differently or to perform different
activities than rivals. A firm is more than the sum of its activities.
A firm's value chain is an interdependent system or network of
activities, connected by linkages. Linkages occur when the way in
which one activity is performed affects the cost or effectiveness of
other activities. Linkages create tradeoffs requiring optimization and
Porter describes three choices of strategic position that influence
the configuration of a firm's activities:
varietybased positioning based on producing a subset of an
industry's products or services; involves choice of product or
service varieties rather than customer segments. Makes economic
sense when a company can produce particular products or services
using distinctive sets of activities. (i.e. Jiffy Lube for auto
lubricants only)
needsbased positioning similar to traditional targeting of
customer segments. Arises when there are groups of customers with
differing needs, and when a tailored set of activities can serve
those needs best. (i.e. Ikea to meet all the home furnishing needs
of a certain segment of customers)
accessbased positioning segmenting by customers who have the
same needs, but the best configuration of activities to reach them
is different. (i.e. Carmike Cinemas for theaters in small towns)
Porter's major contribution with "activity mapping" is to help explain
how different strategies, or positions, can be implemented in
practice. The key to successful implementation of strategy, he says,
is in combining activities into a consistent fit with each other. A
company's strategic position, then, is contained within a set of
tailored activities designed to deliver it. The activities are tightly
linked to each other, as shown by a relevance diagram of sorts. Fit
locks out competitors by creating a "chain that is as strong as its
strongest link." If competitive advantage grows out of the entire
system of activities, then competitors must match each activity to get
the benefit of the whole system.
Porter defines three types of fit:
simple consistency first order fit between each activity and the
overall strategy
reinforcing second order fit in which distinct activities
reinforce each other
optimization of effort coordination and information exchange
across activities to eliminate redundancy and wasted effort.
How is competitive advantage sustained?
Porter (1990) outlines three conditions for the sustainability of
competitive advantage:
Hierarchy of source (durability and imitability) lowerorder
advantages such as low labor cost may be easily imitated, while
higher order advantages like proprietary technology, brand
reputation, or customer relationships require sustained and
cumulative investment and are more difficult to imitate.
Number of distinct sources many are harder to imitate than few.
Constant improvement and upgrading a firm must be "running
scared," creating new advantages at least as fast as competitors
replicate old ones.
Porter, Michael, Competitive Advantage, The Free Press, NY, 1985.
Porter, Michael, The Competitive Advantage of Nations, The Free
Press, NY, 1990.
Porter, Michael, "What is strategy?" Harvard Business Review v74,
n6 (NovDec, 1996):61 (18 pages).
2.2Core Competence and Capabilities

Proponents of this framework emphasize the importance of a dynamic
strategy in today's more dynamic business environment. They argue that
a strategy based on a "war of position" in industry structure works
only when markets, regions, products, and customer needs are well
defined and durable. As markets fragment and proliferate, and product
life cycles accelerate, "owning" any particular market segment becomes
more difficult and less valuable. In such an environment, the essence
of strategy is not the structure of a company's products and markets
but the dynamics of its behavior. A successful company will move
quickly in and out of products, markets, and sometimes even business
segments. Underlying it all, though, is a set of core competencies or
capabilities that are hard to imitate and distinguish the company from
competition. These core competencies, and a continuous strategic
investment in them, govern the long term dynamics and potential of the
What are core competencies and capabilities?
Prahalad and Hamel (1990) speak of core competencies as the
collective learning in the organization, especially how to
coordinate diverse production skills and integrate multiple
streams of technology. These skills underlie a company's various
product lines, and explain the ease with which successful
competitors are able to enter new and seemingly unrelated
businesses. Three tests can be applied to identify core
competencies: (1) provides potential access to wide variety of
markets, (2) makes significant contribution to end user value, and
(3) difficult for competitors to imitate.
Examples of core competence: Sony in miniaturization, allowing it
to make everything from Walkmans to video cameras to notebook
computers. Canon's core competence in optics, imaging, and
microprocessor controls have enabled it to enter markets as
seemingly diverse as copiers, laser printers, cameras, and image
Stalk, Evans, and Schulman (1992) speak of capabilities similarly,
but defined more broadly to encompass the entire value chain
rather than just specific technical and production expertise.
Examples of capabilities: Walmart in inventory management, Honda
in dealer management and product realization.
Implications for strategy?
Portfolio of competencies. An essential lesson of this framework
is that competencies are the roots of competitive advantage, and
therefore businesses should be organized as a portfolio of
competencies (or capabilities) rather than a portfolio of
businesses. Organization of a company into autonomous strategic
business units, based on markets or products, can cripple the
ability to exploit and develop competencies it unnecessarily
restricts the returns to scale across the organization. Core
competence is communication, involvement, and a deep commitment to
working across organizational boundaries.
Products based on competencies. Product portfolios (at least in
technologybased companies) should be based on core competencies,
with core products being the physical embodiment of one or more
core competencies. Thus, core competence allows both focus (on a
few competencies) and diversification (to whichever markets firm's
capabilities can add value). To sustain leadership in their chosen
core competence areas, companies should seek to maximize their
world manufacturing share in core products. This partly determines
the pace at which competencies can be enhanced and extended
(through a learningbydoing sort of improvement).
Continuous investment in core competencies or capabilities. The
costs of losing a core competence can be only partly calculated in
advance since the embedded skills are built through a process of
continuous improvement, it is not something that can be simply
bought back or "rented in" by outsourcing. Walmart, for example,
has invested heavily in its logistics infrastructure, even if the
individual investments could not be justified by ROR analysis.
They were strategic investments that enabled the company's
relentless focus on customer needs. While Walmart was building up
its competencies, Kmart was outsourcing whenever it was cheapest.
Caution: core competencies as core rigidities. Bowen et al. talk
about the limitations to restricting product development to areas
in which core competencies already exist, or core rigidities. Good
companies may try to incrementally improve their competencies by
bringing in one or two new core competencies with each new major
development project they pursue.
Bowen, Clark, Holloway, Wheelright, Perpetual Enterprise Machine,
Oxford Press, 1994.
Prahalad, C.K. and Gary Hamel, "The Core Competence of the
Corporation," Harvard Business Review, v68, n3 (MayJune, 1990):79
(13 pages).
Stalk, G., Evans, P., and L. Schulman, "Competing on Capabilities:
the New Rules of Corporate Strategy," v70, n2 (MarchApril,
1992):57 (13 pages).
2.3ResourceBased View of the Firm (RBV)

What is RBV?
The RBV framework combines the internal (core competence) and external
(industry structure) perspectives on strategy. Like the frameworks of
core competence and capabilities, firms have very different
collections of physical and intangible assets and capabilities, which
RBV calls resources. Competitive advantage is ultimately attributed to
the ownership of a valuable resource. Resources are more broadly
defined to be physical (e.g. property rights, capital), intangible
(e.g. brand names, technological know how), or organizational (e.g.
routines or processes like lean manufacturing). No two companies have
the same resources because no two companies have had the same set of
experience, acquired the same assets and skills, or built the same
organizational culture. And unlike the core competence and
capabilities frameworks, though, the value of the broadlydefined
resources is determined in the interplay with market forces. Enter
Porter's 5 Forces. For a resource to be the basis of an effective
strategy, it must pass a number of external market tests of its value.
Collins and Montgomery (1995) offer a series of five tests for a
valuable resource:
Inimitability how hard is it for competitors to copy the
resource? A company can stall imitation if the resource is (1)
physically unique, (2) a consequence of path dependent development
activities, (3) causally ambiguous (competitors don't know what to
imitate), or (4) a costly asset investment for a limited market,
resulting in economic deterrence.
Durability how quickly does the resource depreciate?
Appropriability who captures the value that the resource
creates: company, customers, distributors, suppliers, or
Substitutability can a unique resource be trumped by a different
Competitive Superiority is the resource really better relative
to competitors?
Similarly, but from a more external, economics perspective, Peteraf
(1993) proposes four theoretical conditions for competitive advantage
to exist in an industry:
Heterogeneity of resources > rents exist
A basic assumption is that resource bundles and capabilities are
heterogeneous across firms. This difference is manifested in two
ways. First, firms with superior resources can earn Ricardian
rents (profits) in competitive markets because they produce more
efficiently than others. What is key is that the superior resource
remains in limited supply. Second, firms with market power can
earn monopoly profits from their resources by deliberately
restricting output. Heterogeneity in monopoly models may result
from differentiated products, intraindustry mobility barriers, or
firstmover advantages, for example.
Expost limits to competition > rents sustained
Subsequent to a firm gaining a superior position and earning
rents, there must be forces that limit competition for those rents
(imitability and substitutability).
Imperfect mobility > rents sustained within the firm
Resources are imperfectly mobile if they cannot be traded, so they
cannot be bid away from their employer; competitive advantage is
Exante limits to competition > rents not offset by costs
Prior to the firm establishing its superior position, there must
be limited competition for that position. Otherwise, the cost of
getting there would offset the benefit of the resource or asset.
Implications for strategy?
Managers should build their strategies on resources that pass the
above tests. In determining what are valuable resources, firms
should look both at external industry conditions and at their
internal capabilities. Resources can come from anywhere in the
value chain and can be physical assets, intangibles, or routines.
Continuous improvement and upgrading of the resources is essential
to prospering in a constantly changing environment. Firms should
consider industry structure and dynamics when deciding which
resources to invest in.
In corporations with a divisional structure, it's easy to make the
mistake of optimizing divisional profits and letting investment in
resources take a back seat.
Good strategy requires continual rethinking of the company's
scope, to make sure it's making the most of its resources and not
getting into markets where it does not have a resource advantage.
RBV can inform about the risks and benefits of diversification
Collis, David J.; Montgomery, Cynthia A. "Competing on resources:
strategy in the 1990s", Harvard Business Review, v73, n4
(JulyAugust, 1995):118 (11 pages).
M.A. Peteraf, "The Cornerstones of Competitive Advantage: A
ResourceBased View," in Strategic Management Journal 1993, Vol.
14, pp. 179191.
2.4Alternative Frameworks: Evolutionary Change and Hypercompetition

Recently, strategy literature has focused on managing change as the
central strategic challenge. Change, the story goes, is the striking
feature of contemporary business, and successful firms will be the
ones that deal most effectively with change, not simply those that are
good at planning ahead. When the direction of change is too uncertain,
managers simply cannot plan effectively. When industries are rapidly
and unpredictably changing, strategy based on industry analysis, core
capabilities, and planning may be inadequate by themselves, and would
be well complemented by an orientation towards dealing with change
effectively and continuously.
Evolutionary Change
Theories that draw analogies between biological evolution and
economics or business can very satisfying: they explain the way things
work in the real world, where analysis and planning is often a rarity.
Moreover, they suggest that strategies based on flexibility,
experimentation and continuous change and learning can be even more
important than rigorous analysis and planning. Indeed, overplanning is
a danger to be avoided.
In Competing on the Edge, Eisenhardt (1998) advocates a strategy based
on what she calls "competing on the edge," combining elements of
complexity theory with evolutionary theory. In such a framework, firms
develop a "semicoherent strategic direction" of where they want to
go. They do this by having the right balance between order and chaos
firms can then successfully evolve and adapt to their unpredictable
environment. By competing at the "edge of chaos," a firm creates an
organization that can change and produce a continuous flow of
competitive advantages that form the "semicoherent" direction. Firms
are not hindered by too much planning or centralized control, but they
have enough structure so that change can be organized to happen. They
successfully evolve, because they pursue a variety of moves, and in
doing so make some mistakes but also relentlessly reinvent the
business by discovering new growth opportunities. This strategy is
characterized by being unpredictable, uncontrolled, and inefficient,
but it works. It's important to note that firms should not just react
well to change, but must also do a good job of anticipating and
leading change. In successful businesses, change is timepaced, or
triggered by the passage of time rather than events.
In Built to Last, Collins and Porras (1994) outline habits of
longsuccessful, visionary companies. Underlying the habits is an
orientation towards evolutionary change: try a lot of stuff and keep
what works. Evolutionary processes can be a powerful way to stimulate
progress. Importantly, though, Collins and Porras also find that
successful companies each have a core ideology that must be preserved
throughout the progress. There is no one formula for the "right" set
of core values, but it is important to have them. In strategyspeak,
it is this core ideology that most fundamentally differentiates the
firm from competitors, regardless of which market segments they get
into. They are deeply held values that go beyond "vision statements"
they are mechanisms and systems that are built into the system over
time. Attention to the core beliefs may sometimes defy shortterm
profit incentives or conventional business wisdom, but it is important
to maintain them. Examples of core ideologies are: HP's commitment to
making an "original technical contribution" in every market they
enter, Walmart's "exceed customer expectations," Boeing's "being on
the leading edge of aviation," and 3M's "respect for individual
initiative." Notice the "maximize shareholder wealth" is not an
adequate core ideology it does not inspire people at all levels and
provides little guidance.
In the context of strategy and planning, this book offers a couple of
important lessons:
Unplanned, evolutionary change can be an important component to
success. Strategy and planning should foster and complement such
change, not suffocate it.
Certain core beliefs are fundamental to organizations, and should
be preserved at all costs. Not everything about an organization is
a candidate for change in considering alternative strategies.
Traditional approaches to strategy stress the creation of advantage,
but the concept of hypercompetition teaches that strategy is also the
creative destruction of an opponent advantage. This is because in
today's environment, traditional sources of competitive advantage
erode rapidly, and sustaining advantages can be a distraction from
developing new ones. Competition has intensified to make each of the
traditional sources of advantage more vulnerable; the traditional
sources are: price & quality, timing and knowhow, creation of
strongholds (entry barriers have fallen), and deep pockets. The
primary goal of this new approach to strategy is disruption of the
status quo, to seize the initiative through creating a series of
temporary advantages. It is the speed and intensity of movement that
characterizes hypercompetition. There is no equilibrium as in perfect
competition, and only temporary profits are possible in such markets.
Successful strategy in hypercompetitive markets is based on three
Vision for how to disrupt a market (setting goals, building core
competencies necessary to create specific disruptions)
Key capabilities enabling speed and surprise in a wide range of
Disruptive tactics illuminated by game theory (shifting the rules
of the game, signaling, simultaneous and strategic thrusts)
3Additional Tools for Strategic Thinking and Analysis

3.1Game Theory

Game Theory in Strategy
Game theory helps analyze dynamic and sequential decisions at the
tactical level. The main value of game theory in strategy is to
emphasize the importance of thinking ahead, thinking of the
alternatives, and anticipating the reactions of other players in your
"game." Key concepts relevant to strategy are the payoff matrix,
extensive form games, and the core of a game. Application areas in
strategy are:
new product introduction
licensing versus production
The Importance of Understanding "The Game"
Successful strategy cannot depend just on one firm's position in
industry, capabilities, activities, or what have you. It depends on
how others react to your moves, and how others think you will react to
theirs. By fully understanding the dynamic with others, you can
recognize winwin strategies that make you better off in the long
term, and signaling tactics that avoid loselose outcomes. Moreover,
if you understand the game, you can take actions to change the rules
or players of the game in your favor. Brandenburger and Nalebuff
(1995) give some good examples of this. One way a company can change
the game and capture more value is by changing the value other players
can bring to it, as the Nintendo example illustrated. In summary,
companies can change their game of business in their favor by
players ("Value Net") customers, suppliers, substitutors, and
complementors (not just the competitors)
added values the value that each player brings to the collective
rules laws, customs, contracts, etc. that give a game its
tactics moves used to shape the way players perceive the game
and hence how they play
scope boundaries of the game.
Game theory has been a burgeoning branch of economics in recent years.
It is a complex subject that spans games of static (onetime) and
dynamic (repeated) nature under perfect or imperfect information. The
references below will be helpful for those wishing to explore the
theory and modeling of game theory in more detail. For strategy,
though, it can often be a major step just to recognize certain
situations as games, and thinking about how a player can set out to
change the game.
Introduction to game theory in corporate strategy
Oster, S.M., Modern Competitive Analysis, Chapter, 13, Oxford
Press, 1994, pp.237250.
Brandenburger, Adam M.; Nalebuff, Barry J. "The right game: use
game theory to shape strategy" Harvard Business Review v73, n4
(JulyAugust, 1995):57.
Basic introduction to game theory concepts
A.K. Dixit and B. J. Nalebuff, Thinking Strategically: The
Competitive Edge in Business, Politics, and Everyday Life, W.W.
Norton & Company, pp. 347367
Gibbons, R., Game Theory for Applied Economists, Princeton:
Princeton University Press, 1992.
Binmore, K., Fun and Games: A Text on Game Theory, Lexington: D.C.
Heath & Co., 1992.
More advanced economics texts on game theory
Fudenberg, D. and J. Tirole, Game Theory, Cambridge: MIT Press,
Myerson, R., Game Theory: An Analysis of Conflict, Cambridge:
Harvard University Press, 1991.

Options theory has influenced corporate strategy unlike any other
paradigm coming from Wall Street. The “real option” is analogous to
the financial option in that a company with an investment opportunity
holds the right but not the obligation to purchase an asset at some
time in the future. Business schools have taught managers to
analyze/evaluate investment decisions using net present value (NPV),
which assumes one of two things: 1) the investment is reversible or 2)
if not, it is a nowornever proposition. In fact, most investment
decisions are irrevocable allocations of resources and capable of
being delayed. Dixit and Pindyck (1995) discuss how the options
approach to capital investment provides a richer framework that allows
managers to address the issues of irreversibility, uncertainty, and
timing more directly.
The options framework places value on flexibility (keeping the
investment option alive) and modularity (creating options):
Flexibility examples: 1) Investments in R&D can create options that
allow the company to undertake other investments in the future should
market conditions be favorable. 2) A mining facility operating at a
loss given current prices may be deliberately kept open because
closure would incur the opportunity cost of giving up the option to
wait for higher future prices.
Modularity examples: 1) A land purchase could lead to development of
mineral reserves. 2) An electric utility could invest in small
additions to capacity as needed to meet uncertain demand instead of
building expensive, largescale plants.
The option is structured such that the company can exercise it when
profitable and let it expire when it is not, depending on how
uncertainty is resolved. As long as there are some contingencies under
which the company would choose not to invest, the option has value.
Thus, options theory captures the fact that the greater the
uncertainty, the greater the value of the opportunity and the greater
the incentive to wait and keep the option alive rather than exercise
Implications for strategy?
The options approach is particularly appropriate for companies in
very volatile and unpredictable industries, such as electronics,
telecommunications, biotech, and pharmaceutical industries.
When raising capital, greater value should be placed on
investments that create options, compared to those that exercise
Options are especially appropriate for analyzing a series of
phased investments.
Options theory helps us understand how traditional discounted cash
flow analysis systematically underestimates the benefits of
Real options also provide a means for evaluating disinvestment, an
often overlooked opportunity to avoid future losses (e.g., closing
a facility in response to a market downturn).
Consider whether the client would be in a better position after
some uncertainty is resolved. In framing alternatives, consider
strategies that include downstream decisions. Options might be the
ideal way to model such decision opportunities.
Introductory Books on Real Options
Amram, M. and N. Kulatilaka, Real Options : Managing Strategic
Investment in an Uncertain World, Harvard Business School Press, 1998.
takes the finance approach to real options, much like the
Luenberger text. Focus is on problems in which risks are priced by
exchange traded securities (market risks).
Real Options in Capital Investment, Trigeorgis, L, editor, 1995.
A collection of articles intended for both academic and professional
Trigeorgis, L., Real Options : Managerial Flexibility and Strategy in
Resource Allocation, MIT Press, 1996.
Perhaps the best overall general introduction to real options,
without taking a strictly finance or strictly decision analytic
approach. Features a good comparison of various approaches to valuing
risky investments. A practical approach that is not as academic as
Dixit and Pindyck.
Academic References
Dixit, Avinash K. and Robert S. Pindyck, Investment Under Uncertainty,
Princeton, 1994.
The book to read if you are interested in mathematical formulations of
real options problems (i.e. dynamic programming and stochastic
differential equations)
Luenberger, D., Investment Science, Oxford Univ. Press, 1997
Luenberger’s binomial lattice approach is a useful simplification of
dynamic programming approaches to real options. The book also includes
some powerful finance tools for pricing market risk.
Smith, James E., “Options in the real world: Lessons learned in
evaluating oil and gas investments,” Operations Research, Jan/Feb
Smith, James E. and Robert Nau, “Valuing Risky Projects: Option
Pricing Theory and Decision Analysis,” Management Science, Vol.
41, No. 5, May 1995.
Smith, James E., “Valuing Oil Properties: Integrating Option
Pricing and Decision Analysis Approaches,” Operations Research,
Mar/Apr 1998.
Jim Smith’s work has been instrumental in integrating the decision
analysis and finance approaches to risky investments. Focuses mainly
on problems that are at least partly influenced by marketspanning
risks (i.e. risks that are priced by exchange traded derivatives, such
as oil and gas futures)
Popular Business References
A number of recent articles have promoted real options to the general
management audience:
Amram, M., N. Kulatilaka, “Disciplined decisions: Aligning strategy
with the financial markets,” Harvard Business Review, Jan/Feb 1999.
a concise summary of the concepts in their book (see above).
Dixit, Avinash K. and Robert S. Pindyck, “The Options Approach to
Capital Investment,” Harvard Business Review, May 1995.
a good overview of why flexibility in decision making is important.
Written by the authors who are also experts in the academic real
options literaure. A good starting point for those who are already
familiar with decision analysis.
Leslie, K. and Michaels, M. “The Real Power of Real Options,” McKinsey
Quarterly, 1997 No 3.
promotes the intuition from analysis of real options as a framework
for strategic thinking.
Copeland, T. and P. Keenan, “How much is flexibility worth,” McKinsey
Quarterly, 1998 No 2
general introduction to real options as a means to price market
risk, focusing more on the finance tradition of real options (no
arbitrage pricing) than the decision analysis tradition. Useful if you
are dealing with uncertainties that are tracked well by the market
(i.e. oil and gas prices, etc.)
Luehrman, T., “Investment Opportunities as Real Options: Getting
Started on the Numbers,” Harvard Business Review, July 1998.
Luehrman, T., “Strategy as a Portfolio of Real Options,” Harvard
Business Review, September 1998.
try to generalize the BlackScholes basis for real options thinking
to a general audience. A bit hoky and simplistic.
3.3Strategic Scenarios

Scenarios are powerful vehicles for challenging our mental models of
the world. The value is not in predicting the future, but in making
better decisions today. The decision makers could be individuals,
businesses, or policy makers. Scenarios are a nice complement to the
principles of decision analysis: the DA cycle ends in decisions and
insights, while the scenario process ends in a scenario.
Why Develop Scenarios? Uncovering the Decision
Besides predicting the future, scenarios aid in strategic decision
Make the decision conscious. The first step in the scenario
process is making the decision conscious. People's decision agenda
is often unconscious, and people should not avoid a decision just
because they feel powerless.
Articulate current mindsets. Scenarios are like stories we can
tell ourselves they are a powerful way of suspending disbelief
and avoiding the dangers of denial. Often, people may refuse to
think about possibilities that are unappealing to them. The
process of scenario building, considering both optimistic and
pessimistic and just plain different futures, overly exposes
"mental models" and assumptions that may be inbred in the
Develop insights and solid instincts. Insights come from asking
the right questions from having to consider more than one
scenario. Also, scenario building helps develop a gut feeling for
a situation, and assures us that we've been comprehensive in
covering the bases relevant to our decision.
How to Develop Scenarios?
Developing scenarios is similar to developing and pruning influence
diagrams in DA, but the scope of consideration is a little broader
with scenarios. Still, scenario builders should consider both narrow
(situation specific) and broad questions. Typically, the scenario
building exercise will result in no more than four scenarios any
more is too complex to draw insights. The set of scenarios should span
a range of outcomes; typically something like "same but better,"
"worse," and "different but better."
Steps to developing scenarios are as follows:
Identify the focal issue or decision. (DA analogue: frame the
Identify the basic driving forces influencing the outcome: social,
technological, economic, political, environmental. (DA analogue?)
Identify the key forces in the local environment: determining the
predetermined elements and critical uncertainties. (DA analogue:
identify the uncertainties)
Rank the uncertainties in order of importance. (DA analogue:
tornado diagram)
Selecting scenario plots (logics). Scenario plots typically run
according to certain logics, like:
winners & losers, challenge & response, evolution, revolution,
cycles, etc.
Flesh out scenarios. Each plot will lead to a different decision
today. From the different plots, narrow and combine them to form
two or three coherent scenarios.
Assess implications of scenarios on decision.
Identify leading indicators and signposts. Learn to notice
symptoms, cues, and warning signals of certain plots unraveling
before you.
Schwarz, Peter, The Art of the Long View: Planning for the Future
in an Uncertain World, Doubleday, New York, 1991.
Schwartz, Peter, "Composing a Plot for Your Scenario," Plannning
Review 20, no. 3 (1992):4146.
Mason, David H. "Scenariobased Planning: Decison Model for the
Learning Organization," Planning Review 22, no. 2 (1994):611.
(This also introduces the idea of organizational learning).
Simpson, Daniel G., "Key Lessons for Adopting Scenario Planning in
Diversified Companies," Planning Review 20, no. 3 (1992): 1017,
3.4Other Particularly Relevant EES&OR Core Concepts

Students in EES&OR have a host of analytical tools available to add
insight to strategic thinking and analysis. Some of the more directly
relevant topics include:
Decision Analysis
decision hierarchy and framing
strategy tables
tornado diagrams
analysis of decisions under uncertainty
value of information
options in decisions
investment analysis
real options
demandoriented pricing (dynamic, monopolistic pricing)
game theory
4Marketing Models for Product Strategy

EES&OR 483 teaches two product planning methodologies that may be used
independently or as complements to each other. They add rigor to
strategy at the level of product planning and implementation. An
excellent reference for these and other marketing models is Lilien and
Rangasaway (1998).
4.1New Product Diffusion Models

The diffusion process is the spread of an idea or the penetration of a
market by a new product from its source of creation to its ultimate
users or adopters. Note that adoption refers to the decision to use an
innovation regularly, whereas diffusion is only concerned with initial
trial of the product. (Source: Lilien, Kotler and Moorthy, 1992, p.
There are two types of diffusion effects:
Innovation: trial of product caused by advertising and promotions
Imitation: trial of product caused by wordofmouth
recommendations and reputation
Prior to Bass (1969), diffusion models were either pure innovative
(assume diffusion only caused by external forces) or pure imitative
(assume diffusion only caused by imitation / word of mouth). The Bass
model combines innovative and imitative behavior into one model:

Magnitude of trial demand ( the number of adopters at time
t derivative of N with respect to t)
Cumulative number of adopters
Potential number of ultimate adopters
Influence parameter for innovation
Influence parameter for imitation
This expression can be rewritten for additional intuitive
understanding using the equivalent representation:

Terms can be interpreted as representing one group of innovators and
one group of imitators, or as representing both the internal and
external influences on all adopters.
Important Guidelines for Market Forecasting
The model forecasts total market potential for a product, not
sales for a particular company. Company sales would depend on
market share of the total, which depends on particular product
variables like quality, cost, and promotion, and distribution.
Diffusion models only help with the big picture; use conjoint
analysis or other methods to forecast market share.
In practice the actual coefficients are usually estimated by
analogy to past products. Coefficients for past products are
generally available in tables, or may be estimated by regression.
Remember that diffusion models only represent demand associated
with the trial of a product. Additional terms need to be added to
account for repeat purchase. A model that takes into consideration
both trial and repeat purchase demand would be a complete sales
The Bass model is a predictive model that is most appropriate for
forecasting sales of a discontinuous new technology or durable
product that has no competitors. In such situations, the success
of the product may be particularly uncertain, and the Bass model
forecast may only depict one possible outcome.
Where you are in the product life cycle dictates the marketing and
customer segmentation strategy. With discontinuous innovations
different marketing strategies are called for at different stages
of the technology life cycle to ensure that the product reaches a
mass market (see Section 5.5).
More recent research has focused on relaxing the assumptions of the
Bass model:
Allowing market potential to vary over time
Not restricting that diffusion of an innovation be independent of
all other innovations
Allowing geographical boundaries of the system in which diffusion
takes place to vary over time
Incorporating the effect of marketing actions such as pricing,
advertising, etc. on the diffusion process
Considering supply restrictions
Consideration of uncertainty
Consider variations in diffusion rates in different countries
Allow word of mouth effects to vary over time
The area of marketing planning modeling includes the incorporation of
feedback effects into diffusion models to turn advertising and pricing
decisions over time into optimal control problems.
Lilien, Gary L., Philip Kotler, and K. Sridhar Moorthy, Marketing
Models (1992):457 (44 pages)
Lilien, Gary, and A. Rangasaway, Marketing Engineering,
AddisonWesley, 1998, pp.195204.
Mahajan,Vijay, Eitan Muller, and Frank M. Bass, “NewProduct
Diffusion Models,” Handbooks in OR & MS, v. 5 (1993): 349 (23
4.2Conjoint Analysis

Conjoint analysis is market research methodology for modeling the
market. A quantitative, grassroots approach, conjoint analysis is
used to predict consumer preferences for multiattribute alternatives.
It is based on economic and psychological research on consumer
behavior, especially at the individual level, which is considered key
to making accurate predictions of the total market. The subject of a
conjoint study can be either a physical product or a service, and the
market can include both new and existing products/services.
What is conjoint analysis?
Think of the decision process that consumers go through when choosing
between complex alternatives. Products vary in terms of their
features, performance, and quality and thus are offered at various
prices. Conjoint analysis considers a product in terms of a bundle of
attributes, or characteristics. Through an interview, data are
collected from respondents to capture the tradeoffs they make between
attributes. These data are processed to estimate a utility function
that expresses each respondent’s value for product attributes. These
utility values are then used in a market model or simulator to make
predictions about how consumers would choose among new, modified, and
existing products. Conjoint analysis allows us to analyze future
market scenarios based on primary market research. Other techniques,
such as historical analysis, would be insufficient to forecast the
market for new products, whereas conjoint analysis can model
consumers’ reaction to hypothetical products that may not yet exist.
Conjoint analysis is a decompositional model in that values are
derived from consumers’ responses to interview questions, as compared
to asking consumers to directly estimate model parameters. In direct
assessment, respondents are asked how likely they are to buy a certain
product or how much they would be willing to pay for a product with an
attribute improvement. This technique is limited in that products are
not shown in a competitive context and these questions do not
generally represent realistic purchase decisions. Alternatively,
conjoint analysis uses inference, which provides a more accurate
picture of consumers’ buying behavior. In the analysis of responses to
questions about hypothetical product concepts, we can infer the value
to each respondent of having each attribute level. Rather than
expecting respondents to provide direct assessments, they are asked to
make a number of decisions that are more realistic and natural. In a
typical pairwise comparison, two product concepts are considered jointly.
For instance:
Which drug treatment would you prefer?
Major side effects
High efficacy
Minor side effects
Moderate efficacy
Implications for strategy?
The scope of product planning issues addressed with conjoint analysis
ranges from the tactical level to the strategic level. The following
is a list of some of the product planning decisions for which conjoint
analysis is currently used worldwide:
New product design
Product positioning
Competitive strategy
Marketing strategies
Market segmentation
Investment decisions
Sales forecasting
Capacity planning
Distribution planning
Conjoint analysis is a widespread, timeproven strategic tool. To
ensure success, practitioners must carefully set client expectations
regarding what conjoint can and cannot do. Conjoint simulators are
directional indicators that can provide significant insight into the
relative importance of product features and preferences for product
configurations. These market simulators predict preference share, that
is market share potential. Many internal and external influences such
as awareness, marketing, sales force effectiveness, and distribution
drive market share in the real world. Unless these effects are
explicitly modeled in, care should be taken to regard the model
results as preference shares that assume perfect market penetration.
Conjoint analysis is implemented using commercially available software
and customprogrammed applications. Descriptions of packages available
from one of the leading developers, Sawtooth Software, are listed in
the references below.
References (organized by needs/interest and ordered by usefulness):
A host of references and guides to choosing software are available at
Getting Started with Conjoint on Your Project
Curry, Joseph, “Conjoint Analysis: After the Basics”
Orme, Bryan, “Which Conjoint Method Should I Use” (1997)
Client Interaction
Curry, Joseph, “Understanding Conjoint Analysis in 15 Minutes”
Orme, Bryan, “Helping Managers Understand the Value of Conjoint”
Sawtooth Software, “Using ChoiceBased Conjoint to Assess Brand
Strength and Price Sensitivity” (1996)
Choosing the Appropriate Software
Sawtooth Software, “ACA System – Adaptive Conjoint Analysis,
Version 4.0” (19911996)
Sawtooth Software, “CVA – A FullProfile Conjoint System from
Sawtooth Software, Version 2.0”
Sawtooth Software, “The CBC System for ChoiceBased Conjoint
Analysis” (Jan 1995)
Struhl, Steven, “Discrete Choice Modeling: Understanding a “Better
Conjoint than Conjoint”
Conjoint Methodology Design and Research
Green, Paul E. and Abba M. Krieger, “Conjoint Analysis with
ProductPositioning Applications,” Handbooks in OR & MS, v. 5
(1993):467 (35 pages)
Lilien, Gary, and A. Rangasaway, Marketing Engineering,
AddisonWesley, 1998, pp184194.
Huber, Joel, “What We Have Learned from 20 Years of Conjoint
Research: When to Use SelfExplicated, Graded Pairs, Full Profiles
or Choice Experiments”
McFadden, Daniel F., “Conditional Logit Analysis of Qualitative
Choice Behavior,” Frontiers of Econometrics (1973)
Green, Paul and Abba Krieger, “Individualized Hybrid Models for
Conjoint Analysis”, Management Science/Vol.42, No.6 (June 1996)
Huber, Joel, Dan Ariely, and Gregory Fischer, “The Ability of
People to Express Values with Choices, Matching and Ratings”
Orme, Bryan, Mark Alpert, and Ethan Christensen, “Assessing the
Validity of Conjoint AnalysisContinued”
Huber, Joel, Dick Wittink, and Richard Johnson, “Learning Effects
in Preference Tasks: ChoiceBased Versus Standard Conjoint” (1992)
Wittink, Dick, and Joel Huber, John Fiedler, and Richard Miller,
“The Magnitude of and an Explanation/Solution for the Number of
Levels Effect in Conjoint Analysis” (1991)
Case Studies
Page, Albert and Harold Rosenbaum, “Redesigning Product Lines with
Conjoint Analysis: How Sunbeam Does It” (1987)
Wind, Jerry, Paul Green, Douglas Shifflet, and Marsha Scarbrough,
“Courtyard by Marriott: Designing a Hotel Facility with
ConsumerBased Marketing Models” (1989)
Conjoint History
Green, Paul and V. Srinivasan , “Conjoint Analysis in Marketing:
New Developments with Implications for Research and Practice”
Green, Paul and V. Srinivasan , “Conjoint Analysis in Consumer
Research: Issues and Outlook,” Journal of Consumer Research, Vol.
5 (1978)
Lilien, Gary, Philip Kotler, and K. Sridhar Moorthy, “Decision
Models for Product Design,” Marketing Models (1992):238
5Conceptual Marketing Frameworks

Much of the MBA level marketing material is not concerned with just
sales and services, but rather with issues of strategic importance.
While this material is not taught in EES&OR483, it may be helpful to
be aware of some key themes in marketing. The following lists and
descriptions provide an overview of important marketing concepts.
You'll notice that some of the concepts overlap with strategy
An excellent reference textbook for marketing frameworks:
Kotler, Philip. Marketing Management : Analysis, Planning,
Implementation, and Control , 9th ed. Upper Saddle River, NJ :
Prentice Hall, 1997.
5.1The Four P’s of the Marketing Mix

The phrase “the four p’s” is an easy way to remember and characterize
the four most important marketing decision variables. The four P’s are
price, product, promotion, and place:
“Price” variables:
Allowances and deals
Distribution and retailer markups
Discount structure
Models and sizes
“Promotion” variables:
Sales promotion
Personal selling
“Place” variables:
Channels of distribution
Outlet location
Sales territories
Warehousing system
Source: Kotler, 1997
5.2MarketOriented Strategic Planning

“Marketoriented strategic planning is the managerial process of
developing and maintaining a viable fit between the organization’s
objectives, skills, and resources and its changing market
opportunities. The aim of strategic planning is to shape and reshape
the company’s businesses and products so that they yield target
profits and growth.” Kotler, 1997
Three key ideas:
Manage the company’s business as an investment portfolio.
Assess the future profit potential of each business by consider
the market growth rate and the company’s fit.
Develop a strategic game plan that makes sense in light of the
company’s industry position, objectives, skills, and resources.
The business strategic planning process:

Boston Consulting Group GrowthShare Matrix: “Invest in the stars, get
rid of the dogs!” The framework promotes the importance of market
growth rate and market share in determining the strategic importance
of a product.

Alternative Views Of The Value Creation Process:
One traditional business approach ignores the impact of marketing
research on product design. Under this framework, the first step is to
make the product, and then the second step is to figure out how and to
whom it will be sold. This is still a common problem in many companies
today. A more sophisticated paradigm recognizes that the consumer
demand should drive product design. Marketing research, segmentation,
positioning, and conjoint analysis are all examples of this more
sophisticated approach. The diagrams below illustrate the two
Traditional physical process sequence:

The value creation and delivery sequence (McKinsey):

5.3Market Segmentation, Targeting, and Positioning

“STP Marketing” is one way to characterize the modern strategic
marketing approach. STP stands for Segmenting, Targeting, and Positioning.
The idea is to use a more direct “rifle” approach instead of an
undirected “shotgun” approach:

Additional Notes On Segmentation, Targeting And Positioning:
The following set of notes provides a brief outline some of the key
ideas in this area.
Alternative approaches to marketing strategy:
Mass marketing: one product for all customers
Productvariety marketing: a variety of products for customers to
choose from
Target marketing: targeted products for specific customer groups
Patterns of market segmentation:
Homogeneous preferences
Diffused preferences
Clustered preferences
Market segmentation procedure (one common approach) (Kotler, 1997):
Survey Stage: Exploratory interviews and focus groups, followed by
questionnaires to assess:
Attributes and their importance ratings
Brand awareness
Productusage patterns
Attitudes toward the product category
Demographics, etc.
Analysis Stage:
Factor analysis applied to remove highly correlated variables.
Cluster analysis applied to “create a specific number of
maximally different segments”.
Profiling Stage: Each cluster is profiled in terms of its
distinguishing attitudes, behavior, … Each cluster is a market
Market targeting: 3 criteria for evaluating market segments:
Segment size and growth
Segment structural attractiveness (Porter’s 5 forces)
Company objectives and resources
Five patterns of target market selection (Abell) (p. 284):

Developing a positioning strategy:
“Positioning is the act of designing the company’s offer and image
so that it occupies a distinct and valued place in the target
customers’ minds.” (Kotler)
USP: Unique Selling Position. Promotion of a single benefit to the
marketplace. Effective strategy (as opposed to touting multiple
Positioning strategies:
Attribute positioning
Benefit positioning
Use/application positioning
User positioning
Competitor positioning
Product category positioning
Quality/price positioning
Three steps:
Identify differences
Choose most important differences
Effectively signal differences to the target market
Economics: Differentiation  premium pricing
Treacy and Wiersema: 3 strategies that lead to successful
differentiation and market leadership:
Operational excellence
Customer intimacy
Product leadership
Product differentiation:
Service differentiation:
Personnel differentiation:
Image differentiation:
5.4Analyzing Industries and Competitors

Industries and competition play a central role in strategic analysis.
The following notes reiterate these ideas from a marketing
Industry concept of competition factors affecting industry structure
and competition:
Number of sellers and degree of differentiation
Entry and mobility barriers
Exit and shrinkage barriers
Cost structures
Vertical integration
Global reach
Industry structure types:
Pure monopoly
Pure oligopoly
Differentiated oligopoly
Monopolistic competition
Pure competition
Market concept of competition: It may be important to consider
competitors which make different products but which meet similar
needs. This is different from an industry perspective when the view of
competition is limited to those firms offering the same or very
similar products.
Product segmentation
Market segmentation
Competitive intelligence: gathering data about competitors.
True market orientation balances consumer and competitor
considerations. Changing consumer needs and latent competitors are key
factors and can be more devastating than existing competitor actions.
5.5The Technology Adoption Life Cycle: Discontinuous Innovations

Some basic marketing concepts should be considered when thinking about
market forecasts and new product strategies. For instance, thinking of
the new product diffusion cycle (Bass model) as an inevitable cycle of
sales can be very misleading. First of all, the diffusion model
forecasts total market potential, and says nothing about the market
share at a particular company. Second, the decisions of the firm can
influence the sales. This is fairly obvious when it comes to the
influence of product quality and cost, but marketing strategy is also
critically important when introducing new products that are
discontinuous innovations. In these cases, the market is not yet aware
of the need for the new product, and an understanding of how a product
moves through the technology life cycle will help a product reach its
full potential faster and with higher likelihood of success.
Geoff Moore, in his books Crossing the Chasm (1991) and Inside the
Tornado (1995), draws on marketing theory and hightech experience to
describe the elements of the product life cycle for technology
innovations. His work examines how communities respond to
discontinuous innovations or any new products or services that
require the end user in the marketplace to dramatically change their
past behavior. He describes how companies must position their products
differently through the cycle to reach their full sales potential and
become an industry standard instead of a novelty. Many new hitech
products start along a classic new product diffusion curve, but fail
soon thereafter. Anyone developing strategy for discontinuous
innovations should be familiar with the ideas Moore writes about.
Through the various phases of the technology adoption life cycle, very
different strategies for product and service offering and positioning
are called for.
The basis of the technology adoption life cycle is similar to the
basis for diffusion models: different groups of potential customers
react differently to innovations, and adoption proceeds from most
enthusiastic to most conservative. Communities respond to
discontinuous innovation when confronted with the opportunity to
switch to a new infrastructure paradigm, customers selfsegregate
along an axis of riskaversion. Moore separates customers into five
categories, along which the cycle of new technology adoption proceeds:
Innovators technology enthusiasts who are fundamentally
committed to new technology on the grounds that sooner or later it
will improve their lives.
Early Adopters visionaries and entrepreneurs in business and
government who want to use the innovation to make a break with the
past and start an entirely new future
Early Majority pragmatists who make up the bulk of all
technology infrastructure purchases; their purchasing behavior is
based on evolution rather than revolution, and they buy only when
there is a proven track record of useful productivity improvement.
Later Majority conservatives who are very price sensitive and
pessimistic about the added value of the product; they buy only
when technology has been simplified and commoditized.
Laggards skeptics who are not really potential customers; goal
is not to sell to them, but sell around their constant criticism.
The customer segments correspond to zones in the "landscape" figure
below. In addition, there is a sixth zone that Moore calls the
"chasm," separating adoption by the early market customers (1,2) from
adoption by the early majority (3). Moore describes the chasm as
Whenever truly innovative hightech products are first brought to
market, they will initially enjoy a warm welcome in an early market
made up of technology enthusiasts and visionaries but then will fall
into a chasm, during which sales will falter and often plummet. If the
products can successfully cross this chasm, they will gain acceptance
within a mainstream market dominated by pragmatists and conservatives.
Since for productoriented enterprises virtually all hightech wealth
comes from this third phase of market development, crossing the chasm
becomes an organizational imperative. (1995, p.19)
The Landscape of the Technology Adoption Lifecycle (source: Moore,
1995, p.25)

The strategy for "crossing the chasm," as well as the strategy for
each of the other "zones", are very particular to where the product is
in the life cycle.
The figure below emphasizes the different value disciplines required
at different stages. Note that the source of competitive advantage
changes through the cycle in Porter terms, it draws on various
combinations of competing on cost (operational excellence),
differentiation (product leadership), and focus (customer intimacy).
Value Disciplines and the Life Cycle (source: Moore, 1995, p.176)

Moore (1995, p.25) characterizes the zones as follows:
The Early Market
A time of great excitement when customers are technology
enthusiasts and visionaries looking to be first to get on board
with the new paradigm. Visionaries are willing to work through
bugs and put in effort themselves to make the solution work. The
product sells itself.
The Chasm
A time of great despair, when the early market's interest wanes
but the mainstream market is still not comfortable with the
immaturity of the solutions available. The only safe way to cross
the chasm is to put all your eggs in one basket target a single
beachhead of pragmatist customers in a mainstream market segment
and accelerate the formation of 100 percent of their whole
The Bowling Alley
A period of nichebased adoption in advance of the general
marketplace, driven by compelling customer needs and the
willingness of vendors to craft nichespecific whole products. A
whole product is the minimum set of products and services
necessary to ensure that the target customer will achieve his or
her compelling reason to buy. Pragmatists want a whole product,
with the necessary user infrastructure and customer support. At
this stage, companies should resist the temptation to try to
provide a general purpose whole product and simplify the whole
product challenge. To get customers on board, service content is
high, ROI to end user must be high, and partnerships with other
companies may be called for. Success in the niche can then be
leveraged elsewhere. The two keys to targeting the right niche
customers here are (1) the segment has a compelling reason to buy,
and (2) the segment is not currently well served by any
The Tornado
An ugly and frenzied period of massmarket adoption, when the
general marketplace (early majority customers) switches over to
the new infrastructure paradigm. It's a herd mentality. Keys to
success in this period are to ignore customer needs and product
modifications and just ship, riding the wave. Market share is
critical at this stage to lock out competitors, and partners
should be eliminated. Companies entering the tornado should expand
distribution channels, attack the competition, and price to
maximize market share.
Main Street
A period of aftermarket development, when the base infrastructure
has been deployed and the goal is now to flesh out the potential.
Another reversal of strategy is needed back to nichebased
marketing. Before the product becomes obsolete, there is an
opportunity to settle into a profitable period of differentiating
the commoditized whole product with extensions focusing on the end
End of Life
Which comes too soon in hightech. Companies should find
caretakers that can take over a fully commoditized product with
low profit margin.

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