Commitment

About The Book

To create a competitive advantage, a company must commit itself to developing a set of capabilities superior to its competitors; But such commitments tend to be costly and hard to reverse. How then, should a company decide which broad path, or strategy, to commit itself to? And how are competition and uncertainty to be accounted for in that decision?

In this brilliant reassessment of how companies gain and sustain competitive advantage, Pankaj Ghemawat consolidates contemporary research in economics and other disciplines into a comprehensive yet practical framework for comparing commitments to strategically distinct options. This framework will help managers address specific strategic choices such as entry, exit, vertical/horizontal integration, capacity expansion, and innovation, as well as choices of generic strategy.

Step by systematic step, Ghemawat provides managers with the tools and techniques they need to improve the quality of the choices that they make. Specifically, Ghemawat discusses:

* how to identify the choices that are truly strategic -- that involve commitment -- before rather than after the fact

* how to analyze the short-run and long-run competitive positions implied by a particular strategic option

* how to assess the sustainability of superior competitive positions over time

* how to account for the flexibility afforded by a particular option in dealing with future uncertainties

* how to deal with both honest mistakes and deliberate distortions in the process of choice

This pathbreaking book will help managers invest in the future. Its logic applies to choices involving disinvestment as well as those involving investment -- and to choices that embody elements of both. Its logic can be used for diagnostic purposes, such as the valuation of business, and most broadly, it win force managers to think about important issues that they may have tended to ignore.

Ghemawat's discussion of these important ideas is concise, studded with detailed examples, based on rigorous research and, above all, practical. It will become required reading for thoughtful practitioners as well as practitionersto-be in the 1990s.

Excerpt

Chapter 1

Strategy: The Failure of Success Factors

If we wish to increase the yield of grain in a certain field and on analysis it appears that the soil lacks potash, potash may be said to be the strategic (or limiting) factor.

Chester I. Barnard, The Functions of the Executive

Something has gone wrong with using strategy as a guide to managerial action. Indexes of business periodicals suggest that while the concept of strategy gained share in the market for business ideas in the 1970s, it lost market share in the 1980s. This decline does not reflect a perception that the problem of strategy has practically been solved. Rather, the perception that seems to have developed is that while strategy is easy to formulate, it is awfully hard to implement. As a result, an increasing fraction of what does get written about strategy calls, in effect, for abandoning the concept. Those who might oppose such calls seem to be preoccupied, instead, with arguing the superiority of their particular strategic doctrine over all others. What went wrong? History suggests a concise answer to that question.

Strategy has come to focus on success factors.

Chester Barnard (1938) introduced strategy to business with his discussion of strategic factors; the epigraph to this chapter is a sample, Barnard recognized the managerial impossibility of apprehending and acting all at once on the many factors that impinge on organizational performance. He therefore suggested focusing on and changing one factor at a time. This strategic factor was supposed to be selected so as to capitalize on complementarities: so as to allow a favorable change in the total situation via a change in one of its parts.

The example of potash, which most of us never have to worry about, should hint at the situationality of the original conception of the strategic factor. But Barnard (1938, p. 204) went even farther than that:

When the need [for potash] has been determined, a new situation has arisen because of the fact of knowledge or assumption that potash is the limiting factor; and instead of potash, the limiting factor obtaining potash then becomes the strategic factor; and this will change progressively into obtaining the money to buy potash, then finding John to go after potash, then getting machines and men to spread potash, etc., etc. Thus the determination of the strategic factor is itself the decision which at once reduces purpose to a new level, compelling search for a new strategic factor in the new situation.

In other words, the strategic factor was originally conceived of as a will-o'-the-wisp.

This conception proved, predictably, to be impractically intricate. As a result, the field of strategy lay dormant for a while. It was not until the 1950s or 1960s (depending on whose claims to priority one credits) that refinements to Barnard's concept began to be proposed. While the refinements were various, they all implied the usefulness of more stable bases for strategic abstraction than Barnard's short-lived successive constraints. The most alluring expedient was to hunt for stable bases of success, for success factors. The search for success factors is what the enterprise of strategy has largely been about ever since.

The last statement will be controversial. One way to corroborate it would be to classify beliefs about strategy and explain why the prescriptions of each "school" do in fact rest on success factors. Such surveys of the field of strategy seem, however, to be in excess supply rather than in excess demand. I will therefore use a specific case to illustrate the reliance of managers and would-be managers on success factors.

The case concerns Wal-Mart Stores' discount retailing business. In the 1970s and 1980s, that business grew at an annual rate of 40%, generated an annual return on equity (ROE) of 35%, and made the company's founder, Mr. Sam Walton, the richest person and one of the most celebrated managers in the United States. By 1990, Wal-Mart was on the verge of surpassing both Sears, Roebuck and K Mart to become the largest general-merchandise retailer in the United States. I chose to write a case about this situation because it was evidently ripe for strategic deconstruction. The strategic lessons drawn from the Wal-Mart case play across a spectrum of success factors, some of which are elaborated on below.

Market Power

An unusually high proportion of Wal-Mart's stores were located in small towns where there was no local competition from other discounters. So although its operating expenses were 8% lower than the average for other discounters (partly because of its rural focus), it priced only 5% below them. In other words, market power allowed Wal-Mart to hang on to some of its cost advantage as a discounter instead of being forced to pass all the savings on to its customers.

Time-based Competition

Wal-Mart had developed the capability of responding exceptionally quickly to changes in consumer buying patterns. Private communications links let it obtain feedback from its stores within 90 minutes of the time they closed and alter the mix of products being shipped to its stores at least once each day, if not more often. Wal-Mart also managed to replenish the stock in its stores twice a week on average, compared to once every two weeks for Sears, Roebuck and K Mart.

Organization

Wal-Mart's organization seemed attuned to the distinctive requirements of running a multisite service operation. Although most operating decisions at Wal-Mart were unusually decentralized (down to the store level), top management received unusually detailed numbers on operating performance and paid an unusual amount of attention to them. In addition, all top managers spent three or four days a week in the field visiting Wal-Mart stores to get a sense of developments that might not be evident from the numbers. To cap things off, there had historically been little separation of ownership and management at the top of the pyramid. Wal-Mart had been run actively by Sam Walton, its founder and principal shareholder, until he retired as chief executive officer in 1988.

Total Customer Satisfaction

Wal-Mart is often said to have practiced total customer satisfaction. Its most profitable stores were the ones that offered customers the broadest and best mix of merchandise of any store in the area, and at consistently lower prices, too. And even when Wal-Mart faced competitors that carried much the same merchandise at comparable prices in look-alike stores (e.g., K Mart), it managed to secure higher consumer ratings. Wal-Mart's logo, its greeters and other little touches had all been cited in this context, leading us to the next story about its success.

Learning

David Glass, who succeeded Sam Walton as chief executive officer in 1988, described discount retailing as a business of details, one in which there were many ways for Wal-Mart to lose the three extra percentage points of operating margin it earned in the mid-1980s. Wal-Mart had clearly gone to great lengths to learn how best to handle details. According to one inspired analyst's report, loading trucks to minimize store space devoted to the back room, unpacking boxes, scheduling part-time labor, displaying jeans to promote tie-in sales of hats, juggling fixture heights for maximum impact and hundreds of other activities had all been analyzed (not just answered) by the company over the years.

Empowerment

Discount retailing is a labor-intensive business in which shop floor workers play a critical role in overall operating efficiency. But they are also a major cost element: payroll expenses account for about 40% of the value added in this business. Such considerations place a premium on trying to motivate workers by empowering them, instead of simply paying them more. There were several indications that Wal-Mart had compiled an exceptional record in this regard. For instance, it had been voted one of the hundred best companies to work for in the United States, in spite of its relatively tightfisted pay scale.

Leadership

As founder, controlling owner, hands-on manager and cheerleader, Sam Walton had played an atypically important role at Wal-Mart. Many Wal-Mart watchers tended to see the company as the shadow of the man at the top. In their eyes, Walton was the company's real success factor because of the leadership he offered in areas such as frugality, customer-sensitivity, and enthusiasm. "Hard" evidence of Walton's contribution included the grisly observation that the price of Wal-Mart stock had slumped when it was first announced that he had leukemia.

This list has covered only a few fashionable success factors, not all the ones that are proposed in the case of Wal-Mart. My sense, however, is that while additional success factors such as configuration, location, market share and strategic intent could, be retrofitted to the Wal-Mart story, the exercise would be tedious, rather than necessary. The managerial tendency to abstract about strategy in terms of success factors should already be clear.

Success factors are a shaky foundation for strategy.

Success factors have their uses, some of which will be discussed later in this book. It would not be sensible, however, to base the entire edifice of strategy on them, for four reasons. First, it is usually hard to identify the success factors relevant to a particular situation. Second, even when a success factor has been diagnosed to be relevant, the implications for the levers managers must pull are not completely concrete. Third, the success factor approach lacks generality because it implicitly assumes that success factors are undervalued. Finally, in view of its other defects, it would be reassuring if the success factor approach to strategy contained some self-justification: a reason why strategic thinking is necessary in the first place. It does not. The rest of this section elaborates on these four defects.

Lack of Identification

The generic success factors flagged in the previous section range across the imaginable spectrum, from the bright economic lights of market power, in which no human beings are visible, to the shadowier tones of empowerment and leadership, in which humans are all. Their diversity reflects the fact that strategists currently worship at many separate churches. It is sometimes asserted that such diversity isn't a bad thing. Managers cannot, however, be so ecumenical. Having to track the full complement of success factors flagged in the case of Wal-Mart would virtually be equivalent to having to track everything. This could only be construed as a repudiation of the search for managerially useful abstractions inaugurated by Chester Barnard.

Nor does contingency theory, with its emphasis on the uniqueness of each situation, promise much relief. A contingent perspective on success factors would imply that the ones to focus on depend on the specifics of the situation. This might seem useful in narrowing the number of success factors to be tracked in any specific situation. Unfortunately, agreement is frequently as elusive on specific success factors as on generic ones. The specifics of the Wal-Mart case, for instance, lend themselves to a host of interpretations, each purporting to explain all by itself the company's ability to earn an operating margin of 7.7% on its 1984 revenues versus 4.8% for the average discount retailer. While several (if not all) of the success factors cited above can be dressed up into "complete" explanations of Wal-Mart's above-average profitability, boredom-through-repetition will be minimized by considering a fresh one: configurational efficiency.

Wal-Mart's configuration differed from other discounters' in two respects: an unusually high proportion of its in-bound merchandise moved to its stores via its distribution centers instead of directly, and its regional vice presidents operated out of corporate headquarters instead of offices in the field. According to the company's own calculations, this configuration created efficiencies on the order of 3% to 4% of revenues. Thus Wal-Mart's superior profitability might entirely be attributed to the efficiency of its configuration. Yet surely there was more to its success than the architecture of its system.

The embarrassing abundance of candidate success factors and the consequent difficulty of figuring out which one(s) to focus on reflect more than just the juiciness of the Wal-Mart story. Both conditions tend to be chronic, for the following reason. Barnard's notion of the strategic factor was conceived around factor complementarities, around the whole being more than the sum of its parts. This conception has been retained in the subsequent search for success factors. But it is well known, at least to economists and accountants, that the sum of the marginal products of complementary factors will exceed their total product. In other words, complementarities imply that it will be easy to propose success factors that promise a big bang per increment of managerial effort, and correspondingly hard to figure out which one(s) to focus on. Since strategy does demand such a focus, this compromises the usefulness of the success factor approach.

Lack of Concreteness

Even if the relevant success factor(s) can be identified, that does not quite solve the managerial problem of what to do about it. The problem is that the mechanism that is supposed to mediate between the organization's stock of success factors and its performance is black-boxed, in the sense that the causal processes that make it work in concrete situations are not spelled out. More precisely, the success factor approach rests not only on abstract objects (which have been deemed necessary to strategy) but also on hermetic laws about their effects.

This lack of concreteness and the complications it creates are clearest in the case of "soft" success factors. Consider, for instance, the success factor of leadership. The inference that leadership is important does not tell managers how to improve their leadership quotient. Rather, the diversity of organizational situations ensures the diversity of the levers that managers must actually pull to become more effective leaders.

This problem is not peculiar to soft success factors. At the other end of the spectrum, even the "hard" success factor of market power is no more than a conceptual filing cabinet (albeit an exceptionally useful one) whose specific contents vary from situation to situation. What a manager must do to help the organization accumulate market power is necessarily specialized to the situation at hand.

Once again, the problem runs deeper than may be apparent at first glance. One of the major themes of the philosophy of science in the 1980s was that attempts to explain any phenomenon in terms of abstract objects (e.g., organizational performance in terms of success factors) require specificity about the causal processes that actually connect the abstract objects and real, observable variables. By implication, overarching laws can be uncovered only if high-level causal processes can be found. But the content of the success factor approach, such as it is, appears to rest on many low-level causal processes rather than on a few high-level ones. That is why success factors seem to be simulacra rather than real keys to organizational performance.

Lack of Generality

Success factor fans inclined to dismiss the two problems discussed above as being too abstract to worry about must contend with a third, more pressing one. Strategic theories that trade on success factors prescribe augmentation of the organization's stock of the relevant one(s). The underlying presumption is that the cost-benefit ratio of such augmentation is less than one: that the marginal product of the success factor exceeds its marginal cost. This is an arbitrary assumption that restricts the generality of such theories.

An illustration may, once again, help clarify the argument. Many statistical studies have uncovered positive associations between the market shares of businesses and their profitability. The implied theory of market share as the success factor has been widely diffused; large, well-funded corporations interlocked in both oligopolistic competition and membership in the Profit Impact of Market Strategy (PIMS) program seem particularly attuned to this message. What would happen if the significant competitors in concentrated industries all tried to increase their respective market shares? Given the constraint that the sum of their market shares cannot exceed 100%, one suspects that that would lead to collective impairment of their performance. It is in this rather troubling sense that theories that trade on undervalued success factors may be suspect rather than merely arbitrary in their parametric assumptions.

Similar limitations apply to the other success factors that I have listed. While it may be nice to have market power, why doesn't competition to acquire it dissipate the profits expected of it? While faster may be better than slower, won't accelerating competition eventually eliminate the gains from further speeding up activities? To ask the same questions another way, why can't Sears, Roebuck, which has studied Wal-Mart and tried to become more like it, seem to close the competitive gap? Saying that Wal-Mart capitalizes on the key success factor(s) in the retailing environment and that Sears doesn't is not very satisfactory for the reason best expressed by the game theorists von Neumann and Morgenstern (1944): it is hard to be satisfied with the generality of prescriptions whose success depends on their not being widely grasped.

There is a more satisfying explanation for the persistent asymmetry between Wal-Mart and Sears, but it doesn't come from the success factor approach. It derives, instead, from the dynamic mentioned in the next subsection and elaborated in the next chapter.

Lack of Necessity

In view of the other defects of success factors, it would be useful if strategic theories that traded on them contained a self-justification, a reason why more-or-less elaborate theories are necessary in the first place. Otherwise, one might be tempted to dispense with strategy in order to get on with things. The success factor approach does nothing to curb that temptation. It suggests no rationale for trying to grasp reality through the idealization of a success factor or two instead of groping at it through trial and error.

The success factor approach fails in this regard, as it did in the previous one, because it does not give history its due. It does not adequately account for the constraints imposed both by past decisions on current ones, and by current ones on those yet to come. Ignoring dynamic constraints undermines the case for ever taking a deep look into the future, for thinking strategically as opposed to myopically. The reason is that in the assumed absence of dynamic constraints, myopic policies will afford as much value as far-sighted ones, and greater ease of operation.

To summarize this section, it is hard to identify strategic success factors and make their effects concrete, and treacherous to count on their being undervalued. To make matters worse, the success factor approach doesn't really explain the necessity of thinking nonmyopically in the first place. Strategy cannot, as a result, be reduced to a matter of identifying and chasing success factors.

The failure of success factors isn't fatal to the enterprise of strategy.

This is not the first time that the defects of the success factor approach have been discovered. Previous discoveries have tended, however, to climax in a denial of the value of trying to think through things ahead of time, i.e., nonmyopically. That denial isn't helpful to managers looking to strategy to help improve the quality of the choices that they must make. Nor does it ring true. I will use the Wal-Mart example, once again, to illustrate the two most popular forms of denial and the problems with them.

Predetermination

One popular way of denying that strategic thinking can make a difference is to assert that choices are, for practical purposes, predetermined. For instance, the "population ecology" school of strategy postulates that organizational form does not fall within the realm of conscious choice and that once it is set, it largely determines the organization's subsequent course of action. In other words, it supposes that an organization's strategy is predetermined at its "birth."

Since Wal-Mart is a retailer, the most obvious rationalization of its success in these terms is the one suggested by the theory of the retailing cycle. According to this theory, retailing formats succeed one another and as this goes on, the operators of old formats have trouble adjusting to competition from new ones. So the theory of the retailing cycle is basically a theory of predetermination by initial format. It would explain Wal-Mart's success in terms of its early emphasis on a new format, the small-town discount store, that ultimately proved to be successful.

A closer look at Wal-Mart's early history tends, however, to contradict rather than corroborate predetermination in the spirit of the retailing cycle. Wal-Mart's precursor, run by Sam Walton, was a chain of five-and-dimes in rural Arkansas that had become the most successful franchisee of Ben Franklin stores in the country. The theory of the retailing cycle would not lead one to expect that this organization would have tried to transform itself into a discount store format, much less succeeded. Yet that is what happened.

Wal-Mart wasn't the only dime store to make itself over into a successful discount retailer: K Mart (previously S. S. Kresge) did too. More broadly, common sense suggests that managers do make important, apparently discretionary choices: that organizational change is more than just the undirected mutation envisioned by population ecologists. This book assumes as much and focuses on improving the quality of such choices.

Luck

A second popular way of denying that strategic thinking can make a difference is to assert that luck is all, that ex ante uncertainty is the only reason for ex post differences in the performance of organizations. Explanations of success and failure in terms of purely random processes have long been popular in economics and have recently begun to infiltrate the literature on strategy.

Wal-Mart's success might be rationalized as good luck in three respects. Wal-Mart may have been lucky that its idea of operating large, almost oversized stores in small towns worked out: it was not clear, ahead of time, that towns with fewer than 100,000 people could support discount stores. It may have also been lucky in that the region it focused on, the Sunbelt, grew relatively quickly in the 1970s and early 1980s. And it may have been lucky again in that its potential competitors, national discounters and regional five and-dime franchises, were slow to imitate its pattern of locating discount stores in small towns even after that pattern had been sanctified by success.

To argue, however, that Wal-Mart's success is entirely a matter of luck is to strain credibility. Very many strokes of luck, rather than just one, would be needed to explain the consistently rapid appreciation of Wal-Mart's stock. Since consistent luck is rather far-fetched, that would seem to argue against a purely random explanation of Wal-Mart's success.

More systematic analysis supports the presumption that flows from the Wal-Mart case: that luck is far from all.7 This is useful because if luck overshadowed everything else, the connection between predictions and outcomes would be too loose for thinking ahead to be of help. This book assumes that managers have some ability to predict the future.

Summary

Strategy has focused, for the most part, on success factors. Theories of strategy that trade on success factors prescribe algorithms, usually single-factor ones, for improving performance. But the whole idea of identifying a success factor and then chasing it seems to have something in common with the ill-considered medieval hunt for the philosopher's stone, a substance that would transmute everything it touched into gold.

The failure of the success factor approach has led some to abandon the quest for managerially useful abstractions that motivated the field of strategy. This book takes a more constructive tack. it bears down on observations of dynamic constraints to identify a stable strategic factor that is something more than Barnard's notion of a fleeting strategic factor but less than a stable success factor, commitment. Commitment is to be thought of as the cause of strategic persistence. It is a constraint that must be reckoned with, not a recipe for success. The next chapter elaborates on this definition and shows that commitment is a superior basis for thinking about strategy because it escapes the problems endemic to success factors. The chapters that follow operationalize the concept of commitment.

Copyright © 1991 by Pankaj Ghemawat

Product Details

  • Publisher: Free Press (August 15, 1991)
  • Length: 192 pages
  • ISBN13: 9781439106174

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Raves and Reviews

Michael E. Porter Harvard Business School Large, irreversible investments are the place where strategy must confront reality. Pankaj Ghemawat's book is brimming with interesting and important ideas about how such commitments should be made.

Richard P. Rumelt Anderson Graduate School of Management University of California at Los Angeles This is the best new book on business strategy to appear in years. Ghemawat provides a fresh, elegant, and penetrating view of how competitive advantage is gained and maintained. Drawing on the most recent scholarship, he argues that the distilled essence of dynamic strategy is commitment. The book will become a "must read" for every academic, consultant, planner and thoughtful general manager who works in the business strategy arena.

J. Roger Morrison Director, McKinsey & Company Ghemawat provides an invaluable guide and stimulus to all executives -- particularly those involved in industries requiring "big strategic bets" in advertising, product development/launch or capital expenditure. He shows how businessmen can analyze their decisions to improve their chances of achieving a successful outcome. Reading it won't make your next strategic decision easier, but it should make it more likely to be successful.

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